Demand for energy is only expected to increase over time, and although energy stocks have long provided a stable return for investors, the sector is changing and will likely be going through transition for the foreseeable future. Due to concerns about meeting steadily increasing demand, as well as the negative impact fossil fuel companies have on the environment, the renewable energy sector is expected to grow rapidly over the next 20 years. The transition looks both to reduce reliance on the current use of fossil fuel, and to meet higher demand in the future with alternative sources. As a result, renewable energy sources are expected to see much faster growth rates than oil or coal.
What is Renewable Energy?
Renewable energy, as opposed to clean energy, are sources that can naturally be replenished. Sun and wind are prime examples. Clean energy is a term that is often used interchangeably, however clean energy is a broader term and includes other alternative sources of energy such as nuclear and natural gas. Clean energy implies that the source emits lower levels of pollution than fossil fuels. Natural gas, for example, is not nearly as clean as renewable energy, but is still considered a clean energy source because it has much lower emissions than oil and coal.
How can investors gain some exposure to this segment yet still balance the risk that comes with a developing sector and a constantly changing landscape? Historically, investing in renewable energy companies has proven quite risky. The technology is continually evolving, government regulation and politics can change the outlook for some companies, and competitive pressures can be too much for others to manage. Investors should not rush to replace all traditional energy names in a portfolio with renewable energy companies. Although the trend will continue to move toward renewable sources, the fossil fuel business will continue to exist for a long time. We may even see demand for oil move higher before demand begins to shift. Still growth prospects for renewables are strong and investors may want to add some type of exposure to a well-diversified portfolio.
If looking for pure renewable energy exposure, stick with the larger more established players with demonstrated profitability. Investments in the sector can be challenging. Lack of demonstrated profits and high debt levels have sent some companies into bankruptcy. No doubt the future trend is in alternative energy, but that alone doesn’t minimize the risk of investing in the sector. Many companies are small and may lack necessary resources to develop their ideas and build infrastructure. It is best to look for companies that not only have strong growth potential, but also have strong balance sheets. Consider global companies. Political support varies from country to country so investing in global firms that are diversified against this risk is beneficial.
Consider These Investment Ideas
Some individual names in the sector that seem to be well positioned for success.
BEP: Brookfield Renewable Partners LP owns renewable power generating facilities in North America, Europe and Latin America. It operates in numerous segments including hydroelectric power, wind, solar and storage. BEP’s operating margin is above the industry average. Valuation is high but look to add on pullbacks in the stock. It pays a dividend of 5.6%.
NEE: NextEra Energy Inc is a large-cap utility company. It has two main business segments, the Florida Power and Light regulated utility and NextEra Energy Resources, a deregulated generator of wind, natural gas, solar and nuclear power assets. It also owns a 65% share in yieldco, Next Era Partners. A yieldco is an investment vehicle formed to own renewable energy generation assets. As a result of using long-term contracts, the assets are expected to generate more stable cash flows. This cash is distributed to investors in the form of dividends. NEE offers a diversified revenue stream and has demonstrated profitability with a rise in net income over the last two years.
LNG: Cheniere Energy Inc is a large-cap company in the business of liquifying natural gas (LNG) that can be transported to global markets. It is currently building two large scale export facilities in Louisiana and Texas. They are on track to become the 5th largest LNG producer globally by 2020. A strong balance sheet enables LNG to finance this growth.
FSLR: First Solar Inc is the largest vertically integrated solar manufacturer in the US with a strong global position. Their proprietary thin-film technology is considered one of the most efficient types of solar energy production. Competitive pressures are increasing in the solar segment. FSLR has a healthy balance sheet that should allow them to continue to reduce costs, but the competitive landscape is something to monitor. The stock has been volatile as it is often impacted by unpredictable solar demand and industry pricing.
Another way to gain exposure to the sector is by investing in an ETF that focuses on renewable energy. Although you have sector risk, you minimize individual company risk. The iShares Global Clean Energy Fund (ICLN) provides exposure to solar, wind, and other renewables.
Although these companies have interesting stories, valuations in the sector are high so investors need to be cautious. Renewable energy is not right for every investor’s portfolio. The sector can be challenging and while it is likely to experience tremendous growth over the next 20-30 years, that doesn’t mean the stocks will be a straight shot up.
Investors who prefer not to invest directly can still gain exposure with some of the large-scale traditional oil and gas companies. Many have made significant strides to expand into the alternative energy space. These companies are under pressure to reduce carbon emissions. With the growth prospects for the future it only makes sense that global oil companies would look to expand into alternative energy. Most have taken some steps to expand the business but to varying degrees.
Equinor (EQNR), formerly Statoil, changed its name last year to align with their strategy of becoming a broad energy company, rather than an oil company. EQNR is Norway’s largest oil and gas producer but has made significant investments in offshore wind projects. It plans considerable increases in spending on alternative energy projects over the next 20 years. Royal Dutch Shell PLC (RDSA), BP PLC (BP) and Total, SA (TOT) are all boosting investments in renewables. At this stage these investments are still a small part of their overall businesses, but the outlook has changed, and planned investments are only intended to increase. Shell has announced plans to double its investment in clean energy. While an increasing number of oil and gas companies now have climate targets, Shell and Total are among the companies with the most ambitious goals. Outside the energy sector, GE is one of the largest manufacturers of wind turbines.
Whether buying direct clean energy stocks, an ETF, or an oil and gas company with significant energy transition plans, alternative energy is an interesting segment supported by large-scale efforts to transform the global energy market.
Note: Donna St.Amant, MBA, is Portfolio Manager at Point View Wealth Management, Inc., a registered investment advisor at 382 Springfield Ave., Summit. Visit us at ptview.com.
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