Satellite images detected a sharp drop in emissions over China during the coronavirus lockdown. Parts of India have been able to see the Himalayas for the first time in more than 30 years.
There can be no doubt that the forced closure of polluting industries has been remarkable for the environment. But will fresher air have a lasting impact, or is this just a temporary reprieve?
In April, Expert Investor spoke to two managers and one senior analyst working on three funds, which all have a Morningstar sustainability rating of ‘high’, to find out their views on how the renewable sector will weather the Covid-19 storm.
‘IT NOW MAKES ECONOMIC SENSE TO INSTALL RENEWABLES’
After everyone has returned to work, that is when we will see that the climate crisis has continued, says Christian Roessing, co-manager of the Pictet-Clean Energy Fund.
“Although the skies are a bit cleaner, that’s relatively temporary. The coronavirus health crisis will, at some point, fade away. But the climate crisis is here to stay.”
At the time of the interview, there had been more than 100,000 deaths, but “it’s really important to remember that seven million people die from pollution every year”, Roessing says.
Studies are showing “there is a potential link between the fatalities and weakened respiratory systems due to pollution”.
“I think we will start to realise the benefits of our clean environment and people will think twice about whether they want to put in a new coal plant or a renewable energy farm.”
Déjà vu?
Market shocks invariably draw comparisons with previous crises, but the current volatility is not the same as during the global financial crisis, says Roessing. It is a time he describes as “very painful for the renewable energy sector, in particular”.
“In 2008/09, the situation was very different as renewables were very, very expensive”, and also dependent on costly government subsidies.
“Now, the situation has completely changed and renewables are close to grid parity in many regions of the world.”
The maturity of the renewable energy sector has also created a number of what Roessing describes as “inflection points”.
“One of them is the arrival of renewables; another is the world of transport, with the arrival of electric vehicles; and the last one is industry 4.0, with the trend towards internet of things, efficient manufacturing, product life-cycle improvements etc.”
Before the arrival of coronavirus, the Pictet-Clean Energy team felt “the fundamentals in many of our themes had improved but that had not been reflected in the valuation yet”.
“So, the valuations were already very attractive, they were not priced for that inflection point and now, with the current environment, this is a very attractive point in time to invest into thematic and long-term themes like renewables, e-mobility, power semiconductors.”
The cost of solar and wind have decreased by 80% and 45% during the past eight years, respectively, he says.
On top of that, battery costs fell by 90% in the past decade.
“We now have a perfect situation where there’s a very fruitful combination of rising public awareness and desire to change, the technological innovation enabling profound change and lower costs.
“It now makes economic sense to install renewables or many other green technologies and, finally, politicians and legislation are pushing in the right direction.”
Avoid the hype
Looking back 10 years, according to Roessing, the fundamentals of the stocks the fund could invest in have “dramatically improved”.
“At that time, the companies that were available had low barriers to entry, low profitability, were highly dependent on subsidies and very volatile.
“Now, we have a whole range of investments. On one side are regulated utilities that are now pure enough for us to invest in. On the other side, we have technology companies like power semiconductors or software companies.”
But the improvement within the theme does not mean the team is any less discerning about the stocks it chooses.
“In general, we avoid commodity-type solar panel manufacturers. We also avoid some of the very hyped technologies for now – the pure-play hydrogen names, for example. We have seen stocks going through the roof but we compare hydrogen with solar five to 10 years ago.
“It’s still very expensive and dependent on subsidies and at the pilot project level.”
Roessing and his team like semiconductors but regard the growth as more cyclical.
“Those cycles go up and down, but every new peak and every new trough will be higher than the previous one.
“We do like semiconductors but we keep a diversified approach to benefit from the range of opportunities within the energy transition.”
‘I WOULD EXPECT THE SUPPORT FOR ENERGY EFFICIENCY IS LIKELY TO CONTINUE’
One sector that has acutely felt the downturn is oil, with Opec agreeing a historic cut of nearly 10 million barrels per day in early April.
The reduction will start on 1 May and run for two months, before being eased to 7.7 million fewer barrels per day for the following six months.
We have already seen lower prices at petrol stations, so could cheaper oil mean a setback for renewable energy?
Blackrock’s Alastair Bishop does not believe so: “Oil is predominately used for transportation rather than, say, power generation.
“When you think of renewable energy, like wind and solar, they are producing electricity and not powering transportation. The direct impact of lower oil prices is a headwind to technologies that are competing in the transportation space, such as biofuels or electric vehicles.”
But the co-manager of the BGF Sustainable Energy Fund doesn’t think that will put too much of a dent in the sale of electric vehicles, as they were not necessarily being purchased for their eco-credentials.
In addition to the growing “regulatory push” from governments around the world, people were buying them because “they wanted the status of having an electric vehicle”.
“While the relative economics of owning an electric vehicle will have worsened with lower oil prices, I don’t think that was what was really driving it.”
Sector spread
Given we are probably still in the early stages of the pandemic, Bishop says: “Like most, we are not trying to make a call on the impact on the next one, two or three months.
“It is still about looking at two-to-three-year investments.
“We are not seeing anything to suggest the medium to long-term outlook has changed,” he adds.
“Biofuels would be one area where we would be more cautious in a lower oil price environment,” he adds. That, of course, assumes the price of oil remains low for an extended period of time, which “may well not be the case”.
“The impact that very low oil prices can have on domestic economies could encourage governments to support efforts to reduce the reliance on largely imported forms of energy.
“I would expect the support for energy efficiency is likely to continue, if not accelerate as a result of this.”
Portfolio management
Like Roessing, Bishop does not see many parallels with the global financial crisis in terms of how much impact the coronavirus will have on the renewable energy sector.
“The last downturn was a big negative for the space. I don’t think that’s what we’re seeing here. While 2008/09 was very much a credit-related event, when you think about the adoption of renewable energy and other technologies, they required investment. So, the reduction of credit was a material negative for the space.
“It was also much more about subsidies, as governments came out of the global financial crisis with stretched balance sheets and their ability to pay big subsidies was under question. But those subsidies are not material for the space today and, in many cases, we’re seeing unsubsidised demand.”
The fund came into the coronavirus crisis relatively defensively positioned. “We had higher-than-normal levels of cash because we had exited a couple of names where we felt the valuation was becoming stressed. We didn’t redeploy because we felt markets were being far too quick to dismiss the risk of the virus back in January and February.
“We are still running high cash levels to take advantage of what we expect will be continued volatility. But what we have been doing is using the downturn to rotate from some of our more defensive positions, which we really owned for periods like this to provide protection to the portfolio.
“We have been adding to favoured names in the portfolio as well as a handful of new names.
“I think we’ve added about six new names to the portfolio over the last month. Bearing in mind that our general turnover is 25-30% per year with a typical three-plus-year holding period.”
‘A GREEN DEAL WOULD BE A GREAT CHOICE’
There will be inevitable short-term delays to projects due to companies ensuring their employees are protected, but RobecoSam senior equity analyst Thomas Guenneges doesn’t expect the trajectory of renewable energy to be significantly affected.
“In the short term, we see low electricity demand and, consequently, low power prices; but these have little impact on renewable projects that are, in majority, hedged for more than 10 years.”
In the medium to long term, the RobecoSam Smart Energy Fund team expects the switch to renewables to “continue unabated and actually be potentially strengthened”.
Guenneges points to the strong fall in emissions and significantly improved air quality as potential reminders that “renewables give us the possibility to reach these levels without stopping the whole economy”.
“As costs have dropped massively for these technologies, they are now the most economic solution in most geographies.”
When the light at the end of the Covid-19 tunnel finally comes into view, “a fiscal stimulus will be in the plans of most countries to restart the economy”, he adds.
“A green deal would be a great choice for it as they require a large workforce and high local spending.”
Ups and downs
When it comes to assessing which sectors within renewable energy will emerge from the coronavirus crisis in the best position, Guenneges says: “As in any economical crisis, financing might become more stressed.
“In that sense, the actors with the strongest balance sheets and liquidity will be in a better position.”
But, as global rates raced towards record lows, renewable projects have become an asset of choice for insurers and pensions, he adds.
Given central banks’ current policy decisions, “this should remain the case and provide ample demand”.
“Therefore, larger developers able to link with the largest institutions might do better.”
Conversely, given its higher dependence on workforce and access to homes, “we expect roof solar to be most affected by the coronavirus, as people are sheltering at home and social distancing”.
Around the world
When it comes to assessing geographical risk, countries that have passed net zero carbon and pledged strong investments in renewable energies might now see it as a good way to provide the economy with stimulus, Guenneges says.
“The main movers should be Europe and China, and some states in the US.”
Countries that take the biggest economic hit from the outbreak “will, of course, have tougher conditions”.
This article appeared in the May 2020 edition of Expert Investor magazine. The interviews were conducted in early April.
