Renewable energy stocks have been hit hard over the last few months, here’s why

Rapidly rising interest rates have had a negative impact of solar and wind energy companies. The reason being – higher costs of borrowing have made capital-intensive renewable projects more expensive and less attractive to investors. Clean energy companies also carry more debt, making them even more sensitive to rising rates.

Essential inputs such as commodities – steel, lithium, copper and even semiconductors were in short supply post pandemic and just as firms began to recover from the supply chain issues, central banks began raising rates, putting further stress on profitability.

Investors are struggling to come to terms with the fact that renewable energy companies are ‘long duration’ investments, meaning – in the initial years, they reinvest their profits back into the business and tend to deliver a proportion of their cash flows in future years.

It’s clear that higher interest rates are buoying the expense of projects, but the renewable sector has too much going for it for investors to give up on it now.

It’s difficult to imagine interest rates going much higher from here. Economists expect central banks, particularly the US Fed, to start cutting rates from next year. Given that the stock market is a mechanism for betting on the future, renewable stocks won’t wait around for rate cuts.

According to the International Energy Agency (IEA), clean energy investment must reach $4.5 trillion per year by 2030 to limit warming to 1.5°C. Carbon emissions from the global electricity sector could peak in the first half of this decade. Additionally, last year’s Inflation Reduction Act in the US is still a strong force working against high interest rates to attract money to clean energy.

The Bipartisan Infrastructure Law (BIL), the CHIPS & Science Act, and IRA have overlapping priorities and together introduced $2 trillion in US federal spending over the next ten years. The IRA has directed nearly $400 billion in federal funding to clean energy, with the goal of substantially lowering the nation’s carbon emissions. The funds have been delivered through a mix of tax incentives, grants, and loan guarantees. Clean electricity and transmission command the biggest slice, followed by clean transportation, including electric-vehicle (EV) incentives. Companies have committed more than $100 billion to electric vehicles and batteries in North America since the IRA passed. In the EU, the Green Deal Industrial Plan has been the answer to the US’s IRA.

As governments globally continue to find solutions for the climate crisis, it is becoming increasingly clear that as pricey and inflationary as the energy transition might be in the near term, the cost of not transitioning could be twice as high.

Prerna Bhalla, Investment Analyst