Investment in alternative energy companies and ETFs may offer rewards, but also come with risks. Here are some considerations.
If you’re like many investors, you’re on the lookout for that “next big thing.” And if you’re also concerned about the environment and have an interest in responsible investing, you might be led to the alternative energy arena. But like most investments, you should understand the risks along with the potential opportunities.
"This is an area where there can be rewards, but also many risks," says JJ Kinahan, Chief Market Strategist, TD Ameritrade. "It is not yet widely adopted as an energy source. Alternative anything usually means more risk," Kinahan says.
There are multiple avenues of renewable energy sources, such as wind, hydropower and geothermal. When it comes to publicly-traded companies, the alternative energy space is primarily dominated by solar companies. During the Obama administration, there was massive investment and growth in the alternative energy space, in large part due to a investment tax credits.
"The U.S. solar market was essentially non-existent in 2007," says Angelo Zino, senior equity analyst at CFRA. Zino says the size of the U.S. solar market grew dramatically from about 2.8 gigawatts in 2007 to around 72-73 gigawatts in 2016.
China is the world's largest solar market, with the U.S. in second place and Japan rounding out the top three, Zino says. "Those three markets represent approximately 68% of total demand. The knock on the solar industry is that it is very concentrated in those three markets. If you are a believer in this industry, it would require greater participation from the rest of the world over the next 10 to 20 years."
One common criticism of the solar industry–for now–is that it can't stand on its own legs due to the high costs. "It essentially can't compete against fossil fuels or more traditional forms of energy on a stand-alone basis," Zino says.
"The biggest driver for the solar space is the favorable solar incentives. In the U.S. the 30% investment tax credit was extended at the end of 2015 and goes until the end of 2019," Zino says. From there the tax credit sees tiered reductions to 26% in 2020, and then down from there.
Additionally, the industry could face possible political headwinds. "There is clearly a lot of concern about what will happen to the incentives under the Trump Administration,” Zino says. “There is a risk that the 30% investment tax credit could be cut sooner than expected. If all of a sudden the administration dropped the incentives from 30% to 10%, demand could drop north of 50%. We would likely see some sort of shake-out in the industry.”*
China also offers solar incentives to support the industry there. However, Zino notes that China cut its solar incentive in the second half of 2016 and is expected to implement another reduction in 2017.
Some investors might include, as part of their diversified portfolio strategy, an allocation to higher-risk, even “speculative” investments. "Alternative energy is the type of investment that could go in the speculative part of one's portfolio," says Kinahan.
Kinahan says those considering alternative energy investments should look at the volume numbers. The average daily volume, or number of shares traded, may be lower for some alternative energy ETFs compared to larger, more established ETFs. This could mean wider bid-ask spreads, and thus unfavorable entry and exit points, for investors.
For investors interested in exploring this sector, another option to an ETF is to explore some of the big names in the business that are more frequently traded, Kinahan says.
Zino weighs in: "We (CFRA) have a negative tilt on the industry. We don't have any buys in this space." However, he adds: "If there is an investor who is bullish on the long-term prospects for solar, look at participants that have stronger balance sheets and less leverage," he says.
TD Ameritrade clients can explore more using scans in the thinkorswim® platform. Figure 1 shows a scan of Renewable Electricity companies, which are companies that engage in generation and distribution of electricity using renewable sources, including, but not limited to, companies that produce electricity using biomass, geothermal energy, solar energy, hydropower, and wind power. The scan excludes companies manufacturing capital equipment used to generate electricity using renewable sources, such as manufacturers of solar power systems and installers of photovoltaic cells and companies involved in the provision of technology, components, and services mainly to this market.
FIGURE 1: THINKORSWIM SCAN.
In the thinkorswim® platform from TD Ameritrade, click the Scan tab. Then, in the top of the screen next to “Setup Scan,” click Scan in > By Industry > Utilities > Independent Power & Renewable Electricity Producers > Click the green “Scan” button. For illustrative purposes only. Not a Recommendation. Past performance does not guarantee future results.
for thinkMoney ®
Financial Communications Society 2016
for Ticker Tape
Content Marketing Awards 2016
Content intended for educational/informational purposes only. Not investment advice, or a recommendation of any security, strategy, or account type.
Be sure to understand all risks involved with each strategy, including commission costs, before attempting to place any trade. Clients must consider all relevant risk factors, including their own personal financial situations, before trading.
Carefully consider the investment objectives, risks, charges and expenses before investing. A prospectus, obtained by calling 800-669-3900, contains this and other important information about an investment company. Read carefully before investing.
ETFs can entail risks similar to direct stock ownership, including market, sector, or industry risks. Trading prices may not reflect the net asset value of the underlying securities. Commission fees typically apply.
Specific risks related to investments in alternative energy ETFs include sector risk and nondiversification risk.
Asset allocation and diversification do not guarantee against investment loss.
*TD Ameritrade does not provide tax advice. Please consult with a tax-planning professional with regard to your personal circumstances.
Market volatility, volume, and system availability may delay account access and trade executions.
Past performance of a security or strategy does not guarantee future results or success.
Options are not suitable for all investors as the special risks inherent to options trading may expose investors to potentially rapid and substantial losses. Options trading subject to TD Ameritrade review and approval. Please read Characteristics and Risks of Standardized Options before investing in options.
Supporting documentation for any claims, comparisons, statistics, or other technical data will be supplied upon request.
This is not an offer or solicitation in any jurisdiction where we are not authorized to do business or where such offer or solicitation would be contrary to the local laws and regulations of that jurisdiction, including, but not limited to persons residing in Australia, Canada, Hong Kong, Japan, Saudi Arabia, Singapore, UK, and the countries of the European Union.
TD Ameritrade, Inc., member FINRA/SIPC, a subsidiary of The Charles Schwab Corporation. TD Ameritrade is a trademark jointly owned by TD Ameritrade IP Company, Inc. and The Toronto-Dominion Bank. © 2021 Charles Schwab & Co. Inc. All rights reserved.