This year, we are focusing each quarter on investment opportunities in the public markets across different aspects of the transition to a sustainable economy. The idea of a sustainable economy, described in the UN’s 1987 Brundtland Report, is one that meets the needs of the present without compromising the ability of future generations to meet their own needs. This can be achieved through an economy that is low carbon and that efficiently and equitably uses resources. Across the transition, we’ve identified four broad areas of investment opportunities in the public markets today that present an alpha thesis for investors: clean energy, electrification, circular economy, and human health and development.
A pricing dislocation
Despite short-term volatility over the last two years, including sentiment-driven fluctuations, geopolitical headwinds, and rising interest rates and inflation, clean energy stocks may present a unique, long-term opportunity for investors looking to capture alpha. Right now, clean energy stocks are generally trading at a discount to companies growing much slower, particularly wind and solar ETFs which are trading at 20-30% discounts compared to the broader equity market.1
In addition to the headwinds that drove up the cost of materials and created supply chain issues, clean energy projects also experienced delays as the details of the Inflation Reduction Act (IRA) were finalized, leading to the undervaluation of many clean energy companies, even as they continued to demonstrate strong growth and profitability. This substantial discount relative to broader market indices presents an attractive entry point for investors with a long-term perspective. An investor doesn’t need to have an opinion on climate change or fossil fuels to take advantage of this opportunity. Rather than simply being an opportunity for environmentalists to personalize their portfolio, the investment thesis for clean energy is rooted in the sector’s upside potential—an opportunity for any investor.
The long-term portfolio edge
Even with a potential administration change in the U.S. next year which could result in an unclear future for U.S. climate policy, global demand for clean energy remains strong and is projected to grow. This is in part thanks to the reality that the levelized cost of clean energy generation, particularly across solar and wind, is substantially lower than coal and gas, even without subsidies.2 Capex costs are also projected to decline over the rest of this decade by 15-20% thanks to an oversupply of raw materials driving down costs.3 And thanks to record amounts of dry powder in private equity and the historic investment made by the IRA, significant amounts of capital are expected to be injected into the sector in the coming years.
Global policies around emissions and macrotrends on energy demand also contribute to the long-term growth potential. In the U.S., California and now the SEC have issued rules requiring public companies to disclose their carbon emissions in the coming years. Meanwhile, according to one study this year,4 two in three ultra-high-net-worth individual (UHNWI) are actively trying to reduce their own personal carbon footprint. These new policies, combined with similar disclosure laws already on the books or in the works across the EU, U.K., and Asia, and the general increase in awareness globally of climate change and the need for urgent action, further bolster the case for long-term investment in clean energy as they contribute to the projected growth in demand for renewables.
By focusing on the long-term growth potential of clean energy, investors may see greater returns as the sector continues to evolve and mature. However, diversification across the entire clean energy value chain may be crucial for mitigating risks and capturing growth potential. Because that potential is in the long-term hold, diversification may help investors weather short-term volatility like that seen over the last two years. Gaining a broad understanding of the compelling investment opportunities in the clean energy transition can help drive deeper engagement with clients who may already have an interest in a specific technology or energy source, or innovation.
Next on the horizon
The rate of electrification across different sectors, meanwhile, will serve as a key indicator of progress in the transition. With nearly 2 million MW of clean energy capacity currently on hold in the U.S. grid interconnection queues, there is uncertainty around transmission capacity expansion. But more to come on that next quarter as we dive into the alpha thesis for electrification.
To learn more about supporting your clients with sustainable investing solutions, reach out to our team at sustainable@envestnet.com or visit envestnet.com/sustainable.
