Renewables: the implications for investors of a transformed energy sector

The development of renewables is transforming the energy sector. This has the potential to create opportunities for investors, but also risks. Two particular pitfalls to watch for are the choice of investment vehicle and the level of valuations.

Not merely change, but transformation

The scale of growth in renewable energy has been remarkable. Consider that:

• Investment in renewable energy in 2015 totaled some $286bn¹
• of the estimated $12tn expenditure on power plants expected by 2040, two-thirds is in renewable sources²
• in China (regarded by some as less committed to clean energy), 70% of capacity additions over the next 25 years are expected to be in renewables²

So energy is a big sector, and renewables are fast becoming a key part of the sector. Driven by policy support, technological advance and attractive return potential, the degree of the shift toward renewables represents not merely change, but rather transformation.

This transformation, and the implications for investors, was the subject of a session earlier this year at the Russell Investments Institutional Summit. The session was led by Tamara Larsen (Head of Private Markets Research), who was joined by Kristina Johnson (Co-Founder & CEO of Cube Hydro) and Andrew Greenup (Deputy Head of Global listed Infrastructure at Colonial First State.)

Pay attention to vehicle and valuation

Every investment opportunity carries its own risks, and two potential traps in particular were highlighted in the session: the choice of investment vehicle and the level of valuations.

On the first of these, the panel pointed out that a good underlying investment cannot overcome a poorly structured investment vehicle. Renewables is a fast-growing area and until recently was something of a niche investment area for institutional investors. Successful investment will require identifying the right spot in the energy development chain for capital allocation and finding suitable investment vehicles: not straightforward tasks.

As to valuations, no investment is a good investment if it’s made at the wrong price. Hot topic status can lead to inflated prices: renewables have attracted a lot of attention, and prices in some areas have been pushed up as a result.

Becoming mainstream

It seems clear, though, that renewables are moving from the sidelines to the center of the energy sector. Technology is changing fast and the course of development can be unexpected; policy support (which has been a major factor in recent growth) is similarly unpredictable. Hydro, solar, wind, nuclear: each area is distinct and will develop differently. Nobody can be completely sure, for example, of the implications of advances in storage capabilities or a decarbonized transport system. These are just a few of the considerations coming out of the transformation of the energy sector, giving investment managers and institutional investment programs plenty to think about.