Will solar energy investment funds keep shining?

Investment funds designed to profit from the solar energy have done well, but now look expensive, says Max King.

Solar energy panels in Spain ©  Pablo Blazquez Dominguez/Getty Images

Investment funds designed to profit from the solar energy have done well, but now look expensive.

When renewable energy funds were first listed, it was easy to be sceptical. In the early days of wind and solar energy generation the technology was expensive and inefficient. So public subsidies accounting for half or more of expected income were required to give investors a competitive rate of return.

Subscribe to MoneyWeek

Become a smarter, better informed investor with MoneyWeek.

The other half of the funds' income was to come from electricity sold to the grid at wholesale prices that were expected to rise steadily. They didn't, perhaps because of the additional capacity.

Understandably, the UK government saw this enthusiasm for investment as an opportunity to limit the subsidies by closing what is known as "the Renewables Obligation" for new generating capacity in March 2017.

Advertisement
Advertisement - Article continues below

This caused howls of outrage from the industry and the environmental lobby but it was a shrewd move, recognising and encouraging the improving economics of renewable generation.

Solar energy is getting cheaper

Ricardo Pineiro, a partner of the Foresight Group, which manages the Foresight Solar Fund (LSE: FSFL), estimates that construction costs in the UK have fallen from £2.5m per megawatt in 2011 to £0.5m now, thanks mainly due to lower equipment and installation costs. In addition, technological improvement in panels has led to a 30%-50% increase in generation output. The "levellised cost of energy", or breakeven electricity price, has dropped by 70%. This means that in Spain and Portugal, where the sun shines more reliably, solar costs are below unsubsidised wholesale prices. Iain Scouller, analyst at Stifel, estimates that point will be reached in the UK, where solar-energy yields are 40% lower, within ten years.

Foresight plans to invest in unsubsidised projects in the Iberian market, though not necessarily through FSFL. The UK would surely follow. Competitor Bluefield Solar (LSE: BSIF) is also targeting unsubsidised solar in the UK but, given the high cost of buying operational assets, intends to construct them itself.

The prospect of a renewable energy sector able to compete with fossil-fuel generation without subsidy is an attractive one and it is tempting to assume that long-term growth will ensure continuing good returns for investors.

A note of caution

Chris Brown of brokers JP Morgan Cazenove, however, is cautious. While FSFL shares yield 5.4% and BSIF 6.3%, they trade at premiums to asset value of 15% and 13% respectively.

FSFL has returned 7.6% per annum since launch in 2013 but that return has been helped by a steadily falling rate now 6.5% at which future cash flows are discounted to arrive at the net asset value. Returns to shareholders are bolstered by borrowings of up to 40% of gross assets of £1.1bn, but this adds to the risk. Brown's main concern is that unsubsidised solar projects selling electricity at market prices "require much higher returns at least 8.5%". He prefers BSIF, with less debt and a UK-only focus (FSFL also has assets in Australia), but the logic of his caution is the same.

Advertisement
Advertisement - Article continues below

Scouller is also less than enthusiastic about the sector. He projects a gentle long-term uptrend in power prices but notes that, having spiked to £70 per megawatt hour in September 2018, they have since fallen to £40.

The pressure on professional investors to embrace renewable energy could easily drive valuations higher still. But the funds are taking advantage of investor demand to raise new equity, whether to invest or to reduce debt. That promises a better opportunity to invest for those under less pressure to be seen to be doing good.

Advertisement

Recommended

Visit/investments/funds/investment-trusts/600959/if-you-think-now-is-a-good-time-to-buy-look-at-these
Investment trusts

If you think now is a good time to buy, look at these investment trusts

With the latest market slides, an awful lot of assets are beginning to look very cheap indeed. If you are thinking of buying, Merryn Somerset Webb has…
10 Mar 2020
Visit/investments/funds/investment-trusts/600873/how-to-build-a-properly-diversified-investment-trust
Sponsored

How to build a properly diversified investment trust portfolio

Max King explains how to build a well diversified portfolio using one of our favourite tools – investment trusts.
25 Feb 2020
Visit/investments/funds/investment-trusts/600757/why-investment-trusts-are-the-best-vehicle-for-your
Sponsored

Why investment trusts are the best vehicle for your money

Max King explains the advantages of investment trusts – sometimes called closed-ended funds – over their open-ended counterparts (or Oeics).
11 Feb 2020
Visit/520115/investment-trusts-the-cinderella-of-investment-arrives-at-the-ball
Funds

Investment trusts: the Cinderella of investment arrives at the ball

Investors should look beyond the market noise of a single year and examine the bigger picture. Max King explains what we can learn from 25 years of in…
8 Jan 2020

Most Popular

Visit/investments/property/601065/what-does-the-coronavirus-crisis-mean-for-uk-house-prices
Property

What does the coronavirus crisis mean for UK house prices?

With the whole country in lockdown, the UK property market is closed for business. John Stepek looks at what that means for UK house prices, housebuil…
27 Mar 2020
Visit/economy/uk-economy/601063/the-uks-bailout-of-the-self-employed-comes-with-a-hidden-catch
UK Economy

The UK’s bailout of the self employed comes with a hidden catch

The chancellor’s £6.5bn bailout of the self employed is welcome. But it has hidden benefits for the taxman, says Merryn Somerset Webb.
27 Mar 2020
Visit/investments/commodities/gold/601037/gold-is-on-a-wild-ride-so-should-you-be-buying
Gold

Gold is hard to find right now – so should you be buying?

With demand through the roof and the physical metal hard to find, it's not the best time to buy gold. But right now, says Dominic Frisby, you want to …
25 Mar 2020
Visit/investments/stocks-and-shares/share-tips/601035/share-tips-of-the-week
Share tips

Share tips of the week

MoneyWeek’s comprehensive guide to the best of this week’s share tips from the rest of the UK's financial pages.
27 Mar 2020