The investment opportunity is expanding due to the soaring costs of fossil fuel and various government and corporates’ long-term commitments to decarbonise.
Also, accelerating investments in renewable energy is seen as Europe’s path to energy independence.
As Kwasi Kwarteng, the UK Secretary of State for Business, recently said: “This is no longer about tackling climate change or reaching net zero targets. Ensuring the UK’s clean energy independence is a matter of national security”. The European Commission also outlined the REPowerEU Plan, in response to the global energy market disruption caused by Russia’s invasion of Ukraine and is seeking to reduce its dependency on Russian gas and oil.
In terms of renewables, the EU proposes to increase the 2030 target for renewables from 40 per cent to 45 per cent of the generation mix (versus ~20 per cent in 2020).
As a result, Ørsted, a global leader in offshore wind development, forecasts that under an accelerated scenario, there will be 230 GW of offshore wind generation in the EU and UK by 2035, compared to ~25 GW currently in operation.
One of the key challenges of investing in renewable energy in the EU has been the slow and complex approval processes for renewable energy projects. The EU is asking member countries to significantly shorten and simplify approval processes. Anecdotally, we are already seeing a response from some member countries in this regard, but this is an area to monitor and a key risk in terms of the EU achieving its ambitious goals.
In the US, the energy transition is being driven by the ambition of states to achieve levels of energy independence and the relative attractive economics of renewable energy compared to fossil-fuel based power generation.
Few renewable energy companies globally currently meet our essential infrastructure criteria — this is mostly due to the fact that many companies involved in renewable energy may also be involved in other activities, have material competitive market (or merchant price) exposure, or highly levered balance sheets. Companies focused on the technology or commodity aspects of renewable energy do not meet our criteria.
There are many companies on the ASX involved in the energy transition, either through a commodity or financing exposure, or through providing engineering and associated services. Others like AGL Energy and Origin Energy are involved, but complicated by their substantial ownership of coal-fired generation assets. None of these companies meet our criteria and as a result, expose the investor to a different risk and return profile that infrastructure investors are typically seeking to achieve. In our view, the best risk-adjusted way to play the unstoppable rise of renewables, and take advantage of current valuation disconnects, is to look globally.
While the long-term investment thematic regarding renewable energy is undoubtedly positive, investors are currently navigating a myriad of risks and challenges. These include supply chain disruptions, cost pressures, broader affordability and reliability of supply concerns, intensifying competition and growing risk of regulatory and political intervention.
Additionally, most renewable energy companies have also been caught up in the savage equity market rotation away from growth – with higher bond yields impacting views of long-term valuations. As long-term investors in the asset class, we are seeing these challenges as creating more attractive long-term investment opportunities, but we are also alive to the challenges.
Risks of regulatory and political intervention is always top of mind for infrastructure investors. These risks are most acute at the moment due to the significantly worsening energy affordability situation in Europe and the UK in particular. We have seen for example, the Spanish Government impose windfall taxes on electricity and renewable energy companies whose profits have, at least indirectly, benefited from the substantially higher gas prices feeding into higher electricity prices. The UK Government has imposed windfall taxes on oil and gas companies, but has to date decided not to impose similar taxes on power generators and energy retailers. This has the potential to impact the near-term earnings of renewable energy companies but more importantly alter perceived political risks feeding into cost of capital considerations.
Tim Humphreys, head of global listed infrastructure, Ausbil Investment Management