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Renewables have proven resilient as investors dump traditional energy, but will the calculus outlast the pandemic?
The coronavirus pandemic has elevated ESG principles across the global market and pushed investors to recalibrate their strategies in favor of renewables. But as the volumes of ESG ETFs, including renewable stocks, hit new highs and appear more resilient than fossil fuels, it still remains uncertain that the current trend will persist after quarantine measures end.
A report by the International Energy Agency indicated that worldwide investment in energy so far has collapsed by $400 billion, or almost 20 percent, compared with last year. The slump could be explained by declining consumption as industry and commercial premises shut down to tackle the spread of the virus. Other reasons include persistent market volatility and fears of a prolonged and painful recovery.
In contrast, global use of renewables is expected to rise by about 1 percent thanks to the expansion of solar and hydro power, whose contribution to electricity generation will rise by nearly 5 percent this year. Furthermore, investors spent a projected sum of more than $12.2 billion on ESG funds in the first four months of 2020, according to The Wall Street Journal, and this volume is expected to grow throughout the year.
This data reflects both the growing popularity of the sustainability agenda and the attractiveness of renewables in times of disruption. The current crisis could ultimately boost corporate and public environmental responsibility and facilitate stricter regulatory measures. The latter would imminently spearhead a transition to the circular economy across the Western nations, as was most recently indicated by the EU’s adoption of long-term plans to enhance the green economy.
Renewables have also turned out to be more resilient than traditional energy companies during times of crisis. Thus, shares of renewable energy producers have better withstood the decline in the markets than those of oil and gas companies. Green energy likewise managed to retain value while investors began to dump fossil fuels amid the market disruptions. There are several reasons why these patterns are taking place.
Firstly, renewable manufacturers supply directly to the power industry, while oil and gas imply transportation costs. In times of worldwide disruption of supply chains and closed borders, renewable shares prove to be more resilient. The leading cause here is that the green economy is still evolving. Because of the predominantly direct transmission of energy, growing numbers of electric transport or different and still developing forms of power generation – the sector’s emerging status supplied a hedge against the disruption that turned out to be powerful enough to sway investors.
Secondly, by and large, renewables are still marginal electric producers while hydrocarbons are considered as base load producers and, hence, can be adjusted more easily. Furthermore, in some countries such as Germany, renewables secure politically-driven priority on input, and that too might help to assure investors in times of crisis.
Finally, the history of past financial crises shows us that transition-focused companies generally do better in times of disruption. Although fossil fuels predominantly rely on a very traditional business model, renewables are the companies that are set to deliver major shifts.
Although the advantages of renewable shares seem evident, the actual perception among investors is still ambivalent. Renewables are turning out to be a power hedge in times disruption, but their continued attractiveness during times of market growth remains in doubt.
Many investors still believe in fossil fuels being capable to deliver higher returns. This view is arguably accompanied by a poor technical understanding of renewables assets, specifically the long-term performance of wind and solar energy, which might limit investor interest. Concerns about the underperformance of clean energy are also occasionally triggered by intrinsic biases against the scale of disruption delivered by renewables and misjudgments about the impacts of such factors as weather at the initial due diligence stage.
Another important factor is the paucity of renewable stocks. For instance, the study’s U.S. fossil fuel basket secures 163 constituents, while the corresponding renewable power portfolio only 18. In effect, it becomes difficult for the majority of investors investor to gain exposure to pure energy transition themes that occasionally reside within private-equity-like portfolios or are hidden inside bigger companies.
Finally, years of working with hydrocarbons has made investors more comfortable in dealing with traditional energy companies, whose strategies and postures across the markets are already known. In contrast, renewables are still viewed with a grain of salt. While few doubt their ultimate dominance in the long-run, not many believe that their time has already arrived.
The current pandemic has revealed the strong qualities of renewables shares and given us a glimpse of the long-term disruption that awaits the energy sector. But the pandemic has also made it evident that investors will take some time to abandon fossil fuels and recalibrate their strategies toward green stocks.
