Tentative bright spots light up the future of alternative energy stocks
Alternative energy stocks have been under pressure over the past year. While traditional oil giants are quoting near records, share prices of renewable energy players are imploding. Why is this happening? And most importantly, does the future of these stocks look any brighter?
Last year was an unrewarding experience for anyone investing in shares of alternative energy companies, which lost ground despite hundreds of billions in investments, subsidies, tax breaks or credits. Government programmes such as the US Inflation Reduction Act, the Green Deal and the European Fit for 55 were not enough to turn the tide. There was still a wide gap between ambitious climate agreements and sub-par corporate results.
There were fears in the market that developers would be insufficiently able to pass on their higher financing and investment costs in new projects. This resulted in tumbling share prices. However, the current valuations offer opportunities.
Anthony Sandra, Portfolio Manager KBC Asset Management
Threat from rising interest rates
‘The strong rise in interest rates globally is without doubt the biggest threat,’ says Anthony Sandra, Portfolio Manager at KBC Asset Management. ‘Utility projects are long-term asset investments funded with debt or loans. When interest rates rise rapidly, those loans become more expensive. Valuations and returns then take an immediate hit, and investors are more likely to adopt a wait-and-see approach.’
The same applies to electricity network operators, such as Elia in Belgium and Terna in Italy. Their stable cash flow makes them a little like bonds, which means they suffer when interest rates are rising.
Private individuals, too, felt the effects of the interest rate hikes, which also made loans for installing solar panels more expensive. On top of this, inflation had a substantial impact on their income, prompting them to postpone energy-efficient investments in new buildings and/or renovations.
It was not just financing costs that spiralled upwards. Materials, raw materials, staff and transportation also became more expensive, putting pressure on margins. Complex licensing procedures, acute staff shortages and ambiguities around tax benefits can be added to the list of obstacles to achieving a genuine breakthrough.
Supply chain improvements allowed installers to reduce their high stock levels and – partly because of mild weather – gas and electricity prices also fell sharply from their 2023 peaks. Suppliers of inverters and solar panels saw the number of orders plummet as a result. ‘Manufacturers of solar energy equipment are suffering the most on the stock market, given the influx of cheap competition from China. Meyer Burger's plans to close its German factory highlight this,’ says Sandra.
Strategic independence
One of the drivers of the Fitfor55 and the Green Deal is the desire to reduce Europe's dependence on foreign countries, including within the energy transition. The aim is to shorten logistics chains and partly repatriate production back to Europe. ‘The conflict between Ukraine and Russia, for example, made our dependence on Russian gas painfully clear once again, and underlines the importance of strategic independence,’ says Sandra.
The quest for energy independence has led to new developments in alternative energy sources.
Anthony Sandra, Portfolio Manager KBC Asset Management
Europe is overdue for independence in the solar energy sector. Almost all the capacity is located in China. Europe is now desperate to avoid the wind energy sector suffering the same fate. This is currently still a pioneering sector in Europe, for both onshore and offshore generation. Through the Wind Action Plan launched in October 2023, Europe is aiming to further support the sector with funding, acceleration of permits, improvement of the auction system and the creation of a fair and competitive environment.
In the hydrogen sector, the results of the first auction of the European Hydrogen Bank will be watched closely. It should lift the hydrogen economy in Europe to a competitive and industrial scale.’That’s important, because hydrogen is one of the solutions for storing temporary surpluses of renewable energy longer term and for making carbon-intensive sectors such as transport, cement, steel, and so on, greener,’ Sandra stresses.
Strategic independence is a global trend. In the United States (US), too, the Inflation Reduction Act is driving the push for greater self-sufficiency. By imposing conditions concerning the sourcing of components from the US before companies can benefit from the tax breaks, it is encouraging moves towards home-grown production capacity. This will create additional jobs within the renewable energy sector and reduce dependence on oil, gas and LNG. there are still opportunities in solar energy in America. Major US suppliers are already buying into this narrative.
Light at the end of the tunnel
It is still unclear when the US and European central banks will make their first interest rate cut. It is looking as if this will not happen before the summer or even autumn. In response, long-term interest rates have crept up again, putting considerable pressure on the renewable energy sector. Electricity prices also remain under pressure, especially in Europe, which is also weighing on sentiment.
‘Due to their poor performance, the valuation of alternative energy stocks has now fallen back to the levels seen five years ago. This should be supportive in anticipation of better news on interest rates and electricity price levels. Some companies have already published better than expected results, especially in terms of the outlook,’ Sandra adds. ‘These lower valuations are also a good thing in terms of acquisitions. Just look at the acquisition by the investment firm Kohlberg Kravis Roberts & Co (KKR) of Encavis, one of the bigger players in the field. It’s a sure sign that current valuations are attractive.
’Demand for solar panels - and especially those with a battery storage system - seems to be bottoming out in both the US and European residential markets.
In the US, the extension of tax breaks under the Inflation Reduction Act is generating renewed interest in wind farm construction.
Expectations for wind and solar power are also high in Europe.
According to the International Energy Agency report published in January, the share of wind and solar power will double to no less than 25% of total electricity generation capacity by 2028.
Anthony Sandra, Portfolio Manager KBC Asset Management
Several European governments have raised the bid prices for the auctioning of renewable energy capacity. This enables developers to offset the increased investment and financing costs. The granting of permits is also being speeded up, and major investments are being made in strengthening the power grid to resolve the ‘traffic jam’ when connecting new renewable energy projects. ‘Because Europe remains committed to its target of reducing greenhouse gas emissions by 55% by 2030 and being climate neutral by 2050. To achieve this, it is essential to accelerate the expansion of renewable energy,, says Sandra.
Opportunities both for the environment and investors
Investments in the energy transition follow the economic cycle but may be hindered temporarily by geopolitical interests. Nevertheless, everybody agrees that the growing trend of investing in the energy transition and the Alternative Energy theme is irreversible, opening up a wider range of opportunities for investors, too.
The energy transition is back on the radar. Promising prospects in the short and long term. Current valuations offer opportunities. This is good news for renewable energy, for smart electricity grids and energy meters.
All the indications are that the rollout of renewable energy will be even faster in the coming years than in the past. it is also vital that that happens, because without a drastic expansion of renewable energy, the world will not achieve the target of net zero emissions by 2050.
'As long as the business model remains intact, the sector will recover, as renewable energy is essential for reducing greenhouse gases and combating climate change,’ says Sandra.
The shift from fossil fuels to renewable energy sources, as well as the development of energy storage and distribution systems, presents opportunities for the environment and investors alike.
Anthony Sandra, Portfolio Manager KBC Asset Management
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This article is informational only and should not be considered investment advice.
