Hydrogen: High on Hopium, Low on Reality

News about hydrogen projects being cancelled or delayed are at all-time highs. Politicians and Big Oil continue to promote green hydrogen as a single-handed solution to the climate crisis. While hydrogen is often touted as the ultimate solution, our research indicates that real life applications today are unfortunately few and far between. This begs a question around current investability.

In working with our partners at ARK Invest Europe to create the Rize Environmental Impact 100 UCITS ETF and the Rize USA Environmental Impact UCITS ETF, we decided, therefore, to adopt a highly pragmatic approach to scoring companies, which is described in our Thematic Classification. Specifically, we incorporated an “economic viability” factor that assesses each potentially eligible company based on its underlying technology or proposed environmental solution, ability to scale and take a share of a growing market, as well as its environmental impact potential.

In this article, we explore the economic viability of hydrogen as an energy source, critically analyse the investment potential of hydrogen-related technologies, and provide insights into how sustainable investors can navigate the complexities of the Hydrogen Economy to make informed decisions.

Facing up to the Hydrogen Economy

Earlier this month, we saw some bad news for proponents of the popular “Hydrogen Economy”. One of President Biden’s flagship hydrogen projects, the $6 billion-dollar Appalachian Regional Clean Hydrogen Hub (ARCH2), was placed in jeopardy due to its unrealistic project economics and strong community opposition, as well as another minor obstacle: fundamental physics.¹

The demise of a variety of hydrogen projects is becoming increasingly common. We now see examples in everything from transportation² and industrials³, to energy⁴ and heating⁵.

Many of the Environmental Impact and Clean Energy investment funds available to investors today are loaded with various Hydrogen Economy names. This is predominantly due to the theoretical promises made to us by vested interests. The reality is that the Hydrogen Economy promises are a difficult sell. For instance, the low energy density of hydrogen, both by volume and weight, makes storage and transportation highly inefficient and costly compared to other energy sources. Additionally, green hydrogen, produced through electrolysis using renewables, remains prohibitively expensive, mostly due to the cost of the input electricity, but also the skyrocketing cost of iridium.

Tracing the Hydrogen Hype

The Climate Crisis is often described as a wicked problem involving various interconnected elements, including economic, environmental, political and social dynamics that have no straightforward solutions. Each climate intervention also often leads to unforeseen and/or unintended consequences and trade-offs. So when a visibly simple solution is presented, like “Transitioning to the Hydrogen Economy”, people want to believe it and jump on the bandwagon.

These promises are then being amplified by powerful people with large audiences: politicians and Big Oil. For both groups, painting an idyllic image of a Hydrogen Economy allows them to delay real and difficult transition decisions. Fossil fuel companies rank among the top lobbying firms for the Hydrogen Economy and outnumber companies from every other industry, including the renewable energy sector!⁶ Look at the money, not the rhetoric.

Moreover, no one understands energy technology better than fossil fuel companies. They have been leading the energy sector for decades, with substantial investments in its development. Their position as the primary advocates for the Hydrogen Economy should raise questions about their sincerity and the commercial viability of the underlying environmental technology.

Indeed, hydrogen lobbying efforts by all industries seriously took off with the inauguration of President Biden in 2021, in anticipation of a massive environmental bill which the industry hoped would include generous subsidies for several environmental technologies, including hydrogen. In August 2022, that bill took form as the Inflation Reduction Act which included the largest and most generous hydrogen subsidy in the world, known as the 45V credit for hydrogen.⁷ The lobbying efforts seems to have paid off as blue hydrogen, the kind that is produced by fossil fuels assisted by some CO₂ capture technology, qualifies for the tax credit!⁸

The situation in Europe is very similar. A 2023 study by LobbyFacts showed that more than €75 million euros, each year, is spent on lobbying efforts by corporate hydrogen promoters, among which the largest players (of course) are Shell, ExxonMobil, Dow, BASF, TotalEnergies, Equinor, BP and Siemens Energy.⁹

“It’s physics, stupid”

The aggressive promotion of an environmental technology by Oil & Gas majors, while not an automatic disqualification, should raise red flags and warrant scrutiny. The primary disqualification for hydrogen, however, is more straightforward: thermodynamics.

First, hydrogen is not an energy source. It is an energy vector. Since hydrogen can’t be found – in sufficient quantities – in its natural form, it needs to be extracted from compounds like water (H₂O) or hydrocarbons (e.g., methane, CH₄). Producing hydrogen requires energy, typically through processes like electrolysis (the green-ish way, by splitting water using electricity—which may or may not be green) or via steam methane reforming, the grey or black way, which involves reacting methane with steam (which emits a lot of CO₂ as a by-product). In this sense, hydrogen serves as a medium to store, transport and utilise H₂ that originated from those primary sources (water and methane).

How efficient is this whole process? Not very, unfortunately.¹⁰ When considering the entire hydrogen value chain – from production to end-use – the overall efficiency, expressed as the resulting energy as a share of initial energy input, is quite low.¹¹ For example, starting with electricity from a renewable source to produce hydrogen via electrolysis (70% efficiency), then compress it for storage (90% efficiency), transport it (95% efficiency), and finally use it in a fuel cell (60% efficiency), the overall efficiency would be:

0.70 (electrolysis) * 0.90 (compression) * 0.95 (transport) * 0.60 (fuel cell) = 0.36 or 36%

This means that only 36% of the original energy input is converted into usable energy at the endpoint, with 64% lost along the way. While the industry is optimistic about improving these efficiencies, significant advancements are likely still a long way off. Regardless of future innovations, one fundamental truth remains unchanged: the Second Law of Thermodynamics dictates that energy transformations are inherently irreversible, always generating some amount of waste heat and resulting in inefficiencies.

“Ok, so is the hydrogen space uninvestible?” Not so fast…

There’s physics, and then there’s politics. The reality is that there is so much public money being poured into the Hydrogen Economy that not every project will be kiboshed. It won’t be the first time, nor the last, that governments go ahead with the most expensive option possible to accomplish something. However, our research suggests that the vast majority of the hydrogen applications that are being discussed right now will not go ahead. For example, hydrogen as a transportation solution is a hard sell, even for trucks, trains and planes (biofuels make more sense for economics and logistical reasons).¹² What about hydrogen as a heating source? Why would we use electricity to inefficiently convert it to hydrogen to inefficiently transport it to ultimately inefficiently re-convert it to an energy source? By cutting out the molecular middleman, one saves energy and capital.¹³ Other applications, like energy storage, face the same inefficiencies. Furthermore, competition with other energy storage technologies is fierce (batteries, pumped hydro, and compressed air energy storage is more efficient for large-scale energy storage and have established infrastructure).¹⁴

The investment opportunity for the sustainable investor, therefore, in the Hydrogen Economy is in the transition from dirty to clean hydrogen production. Global hydrogen production currently stands at around 100-125 million tonnes per year, with approximately 60% used in oil refining (hydrocracking and desulphurisation), 30% in ammonia production (a key ingredient in fertilisers) and about 10% in methanol production (a feedstock in chemicals).¹⁵ Presently, almost all (99%) of this hydrogen is produced from fossil fuels—50% from natural gas, 20% from coal, 22% from oil, and only about 1% from electrolysis powered by clean electricity.¹⁶

Only a handful of companies produce this hydrogen. First Principles Thinking suggests that market incumbents have competitive, technological, economic and reputational advantages over the numerous narrow-focus start-ups that must fight an uphill battle to gain any market share.

Bottom Line

Our pragmatic approach to sustainable investing, as embodied in the Rize Environmental Impact 100 UCITS ETF and the Rize USA Environmental Impact UCITS ETF, ensures that our investment portfolio is safeguarded against unfeasible environmental technologies. For instance, it mitigates the risk of exposure to unprofitable, speculative Hydrogen Economy companies that may quickly become irrelevant if alternative solutions, such as electrification or biofuels, prove more economical. By narrowing our focus to companies that assist industrial hydrogen incumbents in decarbonising their current production, we enable investors to leverage the Hydrogen Economy theme (and the generous subsidies that accompany it) without being overly exposed to speculative technologies unlikely to materialise (at least in the near term).

 
This Featured Article has been produced by Sustainable Market Strategies. ARK Invest International Ltd make no representations or warranties of any kind, express or implied, about the completeness, accuracy, reliability or suitability of the information contained in this article.