Stability in a storm: from pandemic to climate crisis

As the global pandemic wreaked havoc on financial markets, investors experienced dramatic volatility in their portfolios. For some, this has been a catalyst to focus attention on another global phenomenon: the climate crisis and future implications for financial markets.

The risk of extreme weather and the need to reduce our carbon footprint are not the stuff of some distant future—they are realities today. Whether or not institutions choose to act now, individual investors have the power to make a difference by directing their capital into socially responsible investments with a focus on Environmental, Social and Governance (ESG) goals.

During the recent financial turmoil, one ESG category has made headlines in the Wall Street Journal and the New York Times: renewable energy infrastructure. As the Wall Street Journal noted in a recent article, renewable energy infrastructure has proven to be a safe haven in this difficult environment.1 Even with oil prices at rock-bottom, solar and wind power are poised to meet ambitious growth targets that have doubled since 2010. U.S. renewable energy production is anticipated to rise to 21% of total energy capacity this year, up from 10% in 2010 and is further projected to grow to 38% by 2045.2

In the seemingly endless bull market, airlines, hotels and theme parks attracted far more attention than solar or wind farms. Let’s face it, solar and wind farms are pretty boring by comparison. And many infrastructure investors considered airports, parking garages and toll roads, rock solid investments. But the pandemic has changed everything. People aren’t traveling, and those businesses have been decimated as a result. But the sun is still shining, the wind is still blowing, and even during a pandemic the community needs electricity to power their new normal. Through the ensuing market turmoil, renewable energy infrastructure has demonstrated its resilience and brought into stark relief the potential it offers to investors for long-term, stable returns.

When financial markets are a roller coaster, suddenly boring sounds good, especially when it’s accompanied by attractive and potentially tax-advantaged returns. To achieve maximum boring with our investments, we focus on risk-mitigation at every step of the investment process, starting with timing. We only buy projects that are already operational or have been greenlit for construction. By this stage of the project lifecycle, the development risks have been eliminated, and a buyer has been locked in for 100% of the power the project will produce via a long-term Power Purchase Agreement (PPA). Typically, the PPA’s are for 20 to 25 years with a high credit quality or investment grade utility, municipality or corporation.

We do take on construction risk when we buy pre-operational projects, but we endeavor to mitigate that risk by entering into fixed-price and fixed-term construction contracts with experienced and financially sound contractors. And unlike traditional construction, building solar and wind farms is relatively straightforward and can be completed quickly; it’s more like an assembly process than typical construction. That means there is less time for things to go wrong.  

The nature of the PPA’s is another major mitigant to risk. Our customers are contractually bound to buy 100% of the electricity our renewable energy projects produce, and we sell that electricity to utilities, municipalities and other high-credit-quality and investment-grade counterparties. The sales are long term (currently averaging 15+ years across our portfolio) and are “take or pay” in nature; meaning the customer has to pay for 100% of the electricity we produce, whether or not they can use it. Even in a recession when demand for electricity is likely to fall, our customers are contractually obligated to pay for all the electricity we produce, and they have to manage their supply/demand imbalance, typically through reducing purchases of electricity from other sources like coal or gas-fired plants.

A significant number of our customers are electric utilities that often operate as monopolies in their service territories. For this reason, they are highly regulated and subject to high levels of public scrutiny. Notwithstanding the oversight and public scrutiny, it is not impossible for an electric utility to face bankruptcy, as we saw following the 2018 wildfires in northern California. But in that instance the government of California ensured that services were not interrupted, and customers continued to receive the electricity they needed. Electricity is an essential service that powers every aspect of our increasingly digitized lives.

Unlike most traditional electric power sources, wind and solar plants require minimal human intervention to generate electricity.We are therefore relatively immune to the impacts of social distancing protocols.  We monitor our facilities remotely and if issues arise, we can rapidly dispatch small, locally based, technical teams—essential service workers—to the sites to address those issues. In addition, we maintain inventories of spare parts close to our plants to alleviate any temporary supply chain issues caused by potential shutdowns or transportation delays.

Both wind and solar power, the major sources of revenue in our portfolio, are generated by utilizing natural resources which are free. While the wind blows and the sun shines across the Earth, electricity is continuously being produced by someone somewhere. This is a comforting constant in a world now being reshaped by a global pandemic.

With investors’ perception of risk and returns changing rapidly, throughout this crisis, renewable energy infrastructure has shown itself to be an investment class that can provide strong, stable investor returns, and it is well positioned to remain relevant in a carbon-neutral future. It may not sound very glamorous in a bull market, but at the end of the race, remember the tortoise crossed the finish line ahead of the hare.

To solve today’s climate crisis and maintain a healthy economy, we are going to need a variety of different strategies, massive investments in renewable energy and energy efficiency infrastructure, and a major rethink of risk and how we price it. Investors are facing a future that looks very different from the past, one that will come with a lot of uncertainties but will surely create some very exciting opportunities as well. If recent events have shown us anything, it is that uncertainty and market volatility are in lockstep. As we start to move toward that future it may be wise to consider seeking some calm to help weather the inevitable approaching storm.  

by Charles Wheeler and David Sher, Co-CEOs of Greenbacker Capital