Energy transition investments: selected examples
We look at selected holdings within our equity and alternative allocations that provide exposure to energy transition.
Energy transition has long been an important theme in wealth management client portfolios.
Investments in this area have not been immune from recent market volatility. Many companies in the space are feeling the impact of headwinds weighing on corporate profits more broadly – such as supply chain disruption, cost inflation and higher borrowing costs.
However, energy transition investments benefit from the prospect of strong long-term demand growth, supported by policy developments and evolving consumer preferences. Recent volatility may have created opportunities for managers to invest in these businesses at more attractive valuations than in the recent past.
Below, we look at selected holdings within our equity and alternative allocations that provide exposure to energy transition.
NinetyOne Global Environmental Markets (held within Core Models)
We share the view of fund managers at NinetyOne that sustainable decarbonisation will require a rapid transition to EVs. The manager told us:
“Policymakers have played an important role in encouraging the switch to electric vehicles. Around 20 countries have proposed banning new ICE vehicle sales, including China, Japan, the UK and 12 US states. Just last month, the EU approved an effective ban on new fossil fuel cars from 2035.
While the restrictions on ICE vehicles may be some years off, they are prompting immediate changes in consumer behaviour, with many drivers mindful of the residual value and potential rate of depreciation of ICE vehicles bought today.
As the regulatory and consumer tailwinds driving the EV sector have strengthened, the number of market participants has mushroomed and the market is becoming very competitive. At this stage, it is difficult to determine which manufacturers will ultimately dominate. We have therefore focused on gaining exposure to the transition to EVs through the sector’s supply chains and related industries.
Transport electrification is driving structural growth in diverse parts of the economy beyond car-making itself, including semiconductors, lasers and sensor technology, battery production and component manufacturing. By allocating to market-leading suppliers in these sub-sectors, investors can capture the uplift in electric-car adoption, regardless of who the champion EV-makers may turn out to be. The growth opportunity for EV suppliers (and related industries) is arguably not fully reflected in valuations.
There’s another reason why we think accessing the EV opportunity indirectly makes sense: the high cost of transitioning legacy ICE businesses. This will present a significant challenge for EV manufacturers and create uncertainty over their profitability. As electrified transport become mainstream, EV makers are also likely to face significant pricing pressure as they try to win market share. EV suppliers may have a better chance of remaining profitable and delivering sustainable returns.
EV supply chain companies in our portfolio include Wuxi Lead, Sanhua, Iberdrola, Aptiv and TE Connectivity. We have also recently purchased CATL, a Chinese company which is the largest EV battery producer in the world.”
Gresham House Energy Storage (held within Schroders Sustainable Alternative Assets Fund)
This UK-listed investment trust develops, owns and operates grid-connected battery storage facilities. These giant lithium-ion battery arrays do not generate electricity but instead, charge up when generation is plentiful and discharge when demand exceeds the electricity supply. They help to moderate the supply of electricity on the national grid and ensure sufficient supply for end users.
Different approaches to moderation provide different revenue streams for these assets. At the micro level, the ability of the battery to be switched from charge to discharge almost instantly means that owners can be paid to help moderate frequency on the grid, smoothing the supply of electricity. Operators can also be paid to be on standby to provide instant capacity when demand spikes unexpectedly. Finally, buying and selling capacity in the wholesale electricity market on a forward basis allows the operator to use the storage capacity to sell (discharge) electricity when prices are high and buy (charge) when prices are low.
Demand for these assets is underpinned by the UK’s ongoing build-out of renewable energy generation. This can lead to a more volatile power supply, especially as continuous baseload generators such as fossil fuel power stations are phased out.
Gresham House Energy Storage is one of our preferred companies in the sector due to their strong development pipeline, an expert management team who have proven their ability to deliver their stated return objective and their significant positioning within the UK battery market.
One of Gresham House’s battery energy storage sites in Thurcroft in South Yorkshire (Capacity 50MW)
ThomasLloyd Energy Impact Trust (held within Schroders Sustainable Alternative Assets Fund)
This UK-listed trust invests in renewable energy assets in Asia, including solar, wind and biomass.
Asia is the largest consumer of global energy and the region emits more carbon emissions than Europe and North America combined (Source: Global Carbon Atlas, ThomasLloyd). Consumption is forecast to increase, with population growth and urbanisation increasing the demand for energy.
In much of Asia, it is now cheaper to produce energy via renewables than fossil fuels.
The trust aims to generate a “triple point return.” This includes 1) a financial return (targeting 10-12% per annum) 2) an environmental return and 3) a social return. The environmental return is generated by creating clean energy and the social return is driven by creating jobs in local communities and giving more people access to energy.
Currently, the portfolio is concentrated in solar assets across India, the Philippines and Vietnam. The company is looking at wind and biomass assets. 93% of revenue is generated via long-term, fixed-price Power Purchasing Agreements. 93% of their energy is sold to government entities, ensuring a reliable income stream for years to come.
For information purposes only and nothing in this article should be deemed to constitute the provision of financial, investment or other professional advice in any way. Any reference to sectors/countries/stocks/securities are for illustrative purposes only and not a recommendation to buy or sell any financial instrument/securities or adopt any investment strategy.
This article is issued by Cazenove Capital which is part of the Schroders Group and a trading name of Schroder & Co. Limited, 1 London Wall Place, London EC2Y 5AU. Authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority.
Nothing in this document should be deemed to constitute the provision of financial, investment or other professional advice in any way. Past performance is not a guide to future performance. The value of an investment and the income from it may go down as well as up and investors may not get back the amount originally invested.
This document may include forward-looking statements that are based upon our current opinions, expectations and projections. We undertake no obligation to update or revise any forward-looking statements. Actual results could differ materially from those anticipated in the forward-looking statements.
All data contained within this document is sourced from Cazenove Capital unless otherwise stated.