The secular growth trends in clean energy continue

During the synchronised sell-off in markets in January – mainly due to massive sector rotation in favour of “value stocks” – clean energy sector stocks suffered. And yet, the transition to clean energy keeps accelerating.

Factors specifically driving down clean energy’s two worst hit sectors — storage and solar— were both supply chain and policy-related. Both point to the differing effects of disruption we are seeing in the transition to a low carbon economy. These significant disruptions require levels of global procurement and investment not seen in our lifetimes, as well as policy reflection regarding energy accessibility and equitable distribution in the future.

Energy storage depends on chips

At present, the biggest end market for battery storage technologies is transportation. Whereas some companies such as Tesla fared well in obtaining semiconductor chips, peers saw their production more constrained. A surprising fact in 2021 was that an estimated 10 million cars were not built because of supply constraints. Early this year the same constraints persist, worsened potentially by Omicron confinement.

Solar energy is the path to distributed generation and autonomy

In the solar space, potential issues relate more to the threat of unfavourable policy change. For two years now, studies have suggested that rather than pour billions into age old transmission grids, rooftop solar combined with battery power can help to improve legacy grid resilience and even completely transform power distribution as we know it – helped by software to create virtual, communal grids. As we discussed in last month’s notes, California – the most heavily penetrated DG (distributed generation) state – is threatening to reduce the remuneration households obtain from selling their excess power. After much public uproar, on 12 January the ongoing policy debate was cancelled and the ultimate decision expected on 27 January has been postponed. This situation may drag on and keep our residential rooftop holdings solar in the darkness of uncertainty for some months to come. As in December, share prices reacted strongly to a Bloomberg New Energy Finance study estimating the drop in rooftop solar demand by some 23% in California, based on their assumed 40% of installations motivated by pure economics. Other analysts estimate an even greater fall in demand.

While we are waiting for the outcome of this debate, the market seems to be pricing in the very worse-case scenario whereas from our view, there is no turning back from distributed generation. This potential, combined with ever improving battery storage is huge, for both installers and equipment companies. The concept of the home or community becoming autonomous is a gain for resiliency – which will be increasingly necessary to keep lights on during severe weather events. The most controversial issue on both sides of the fence is energy “justice”, and whether higher income groups benefit from the existing NEM (net energy metering) framework to the exclusion of lower income groups often not only excluded but also burdened with the unreliable legacy network). Our discussions and research lead us to believe that more, rather than less DG allows for a more equitable power distribution. In all cases, we think this is central to debate, particularly as the outcome requires public support.

Wind energy enjoys strong tailwinds

So far, the Q4 2021 reporting period is very encouraging overall, except for those companies burdened by component and shipping inflation, e.g. the wind equipment companies. Nevertheless, even where high costs are concerned, there is some relief from reducing steel costs and possibly even transportation costs which may have peaked. The strength of markets in all geographies, including China, remains strong.

One sector that has drawn our attention is offshore wind. 2021 was a record-breaking year with the highest capacity additions ever, nearly double the level added in 2020. China alone added six times more capacity and even the US committed to 30GW rollout by 2030. Moreover, floating wind is beginning to take off. Most importantly, from our view, is the willingness to bid for huge projects at zero-subsidy. This reflects the level of maturity reached by offshore wind installers as well as completely new market dynamics set by the unprecedented demand by takers like Amazon, who are willing to pay above market prices for future power consumption.

PPAs as decarbonation boosters

Related to this is the news around corporate PPAs (power purchase agreements) more generally. Globally, the demand for renewable energy projects by the corporate sector is accelerating at an unprecedented pace. As we have noted over the past five years, corporate buyers have been motivated by the predictability of power supply for their own consumption, especially the tech giants, who require uninterruptible power supply for data centres, along with the reputational benefits of alignment with ESG and sustainability principals. The latter seems especially probable for the oil giants such as Total – a particularly big corporate PPA buyer.

Rising fossil energy prices benefit renewables

The economic motivation is even more obvious as the price of natural gas and carbon soar. We are witnessing plans to switch from grey to green hydrogen at some heavy industries already employing hydrogen – purely because of the rising price of gas, whilst the cost of renewable energy is falling.

Even rising financing costs help accelerate the green trend

The accelerating demand has positive repercussions throughout the clean energy value chains. Specialized project lenders and lawyers in the US are also telling us this is being reflected in more competitive cost of capital levels. Whereas lending rates are falling for ESG-driven green corporate PPAs, lending costs continue to trend higher for thermal projects as banks reduce capital availability for what may become longer-term stranded assets.

In all, while the stock price levels today would suggest the underlying demand has weakened, the opposite is true. The rollout of renewable energy projects is accelerating, and we believe it has much further to go.

We are optimistic and see the current market sell-off as an opportunity. The secular growth trends in clean energy continue and the accelerating rollout of solar and offshore wind projects is breath-taking. Further supporting our optimism about 2022 is the much greater value placed on sustainability by the investment community and by individuals.