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How to invest in clean energy

Glenn Freeman  |  04 Feb 2020Text size  Decrease  Increase  |  
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As Australia's devastating bushfire season brings climate change to the fore, these stocks and funds provide an entry point for investors seeking clean energy exposure.

At least 33 people have died, more than 25 million acres have burned and 2000 homes have been destroyed since the end of September.

Australia has also endured some of the hottest days on record, with a national average of 42C on 18 December. At the same time, much of the country is in drought.

And yet, investment in renewable energy projects fell by more than 50 per cent in 2019, according to Clean Energy Council data released on 31 January. The number and scale of projects has fallen from 51 projects worth $10.7 billion in 2018, to 28 projects worth $4.5 billion in 2019.

But federal Minister for Energy and Emissions Reductions Angus Taylor maintains Australia is still a world leader in renewable energy. In terms of reducing emissions linked to hydrocarbon-intensive fuels such as coal, "we're serious because we are meeting and beating our targets," he told ABC Radio last week.

Regardless of how much Australia's government is committing to clean energy sources, there are various ways individuals can invest.

At a stock level,  Morningstar's Global Equity Best Ideas for February 2020 contains several companies that draw a large proportion of their revenue from clean energy.

Engie SA (ENGI)

Sector: Utilities | Economic Moat: None | Price-to-Fair Value: 0.94

French power company Engie SA (PAR: ENGI) is one of the three largest diversified international European utilities, alongside Enel and Iberdrola.

Since current CEO Isabelle Kocher took the helm in 2016, Engie has divested around €16.5 billion of mostly commodity-exposed assets—those linked with oil and gas exploration and production, LNG and coal—to increase its focus on renewables.

"Regulated gas distribution and transmission networks, mostly in France, account for around 40 per cent of the group’s EBITDA," says Morningstar US equity analyst Tancrede Fulop, CFA.

Engie trades at a 22 per cent discount to the sector in terms of 2019 price-to-earnings, while yielding above the 5 percent sector average.

"We think this is unjustified, because it has lower leverage than peers and solid fundamentals," Fulop says.

"Investments in renewables, increasing achieved power prices, and cost-cutting should drive a 2018-2023 compound annual growth rate of 5 per cent in earnings per share and around 6.5 per cent in the dividend."

Engie's last closing price was €15.56, around 6 per cent below Fulop's fair value estimate of €16.50.

ENN Energy Holdings Ltd (XHKG: 02688)

Sector: Utilities | Economic Moat: Narrow | Price-to-Fair Value: 0.97

Hong Kong-based company ENN Energy (HKG: 02688) is engaged in the investment, operation and management of gas pipeline infrastructure and the sale and distribution of piped and bottled gas.

Its main business portfolio consists of clean energy distribution, including city pipeline natural gas, liquefied petroleum gas and vehicle refuelling gas.

ENN Energy owns exclusive rights on city gas operations in China, with contracts that extend for decades, says Morningstar senior equity analyst Chokwai Lee.

"The recent share price pullback on concerns of cancellation of connection fees nationwide presents a buying opportunity.

"The long-term contracts allow the firm to collect one-off connection fees as well as ongoing gas usage fees. We think the likelihood of any cancellation is low."

Lee projects that China's goal of easing pollution by increasing gas usage to 9 per cent of the country's energy sources by 2020, from about 7 per cent today, will sustain long-term demand growth for gas.

"We are confident that ENN will generate returns above its cost of capital over the next decade, supporting our narrow moat rating," he says.

ENN currently trades at a slight discount to Morningstar's fair value estimate of HK$94, its shares having last closed at HK$91.10.

Home-grown renewables

Investors seeking to buy Australian renewable energy companies also have various options, with more than a dozen listed on the ASX.

But in most cases they're smaller early-stage companies with market capitalisations ranging between $6 million and around $500 million—and none are part of Morningstar's equity research universe.

A handful of these include:

Those without the risk appetite to invest directly in small cap energy stocks may prefer exposure via a professionally managed fund.

Each of the following funds hold the highest Morningstar's Sustainability Rating of Five Globes. First introduced in 2016, this was updated last October so investors can more accurately assess the ESG credentials of funds or companies.

Australian Ethical Shares (3921) allocates 2.85 per cent of its portfolio to Infigen, a $600 million developer, owner and operator of renewable energy generation assets in Australia.

The fund also holds a 3 per cent weighting to Contact Energy (ASX: CEN), a New Zealand-based utility with a large focus on renewable energy. This company is also part of Morningstar Australia's equity research, regarded by senior equity analyst Adrian Atkins as holding a narrow moat of competitive advantage.

The Australian Ethical Shares fund, which is recommended as a supplementary rather than core portfolio allocation, holds a Morningstar Neutral rating.

Morningstar manager research analyst Donna Lopata notes the strategy's performance has been strong relative to its benchmark, the ASX Small Industrials. But she says this is distorted by the fund holding around 25 per cent of its portfolio in large-caps.

"Australian Ethical Australian Share offers a reasonable approach to ethical investing, but parent issues, staff turnover, and a high management fee reduce our conviction," Lopata says.

Legg Mason Martin Currie Australia Real Income (19026) also invests in Contact Energy, with a 5.28 per cent weighting as of 30 September 2019.

An income-focused fund that also holds a Neutral rating, the strategy typically invests in three sectors: Australian listed property, infrastructure and utilities.

"Income seeking investors will see benefits in Legg Mason Martin Currie Real Income, but it comes with significant biases and we recommend its use in a supporting role only," says senior manager research analyst Matthew Wilkinson.

is senior editor for Morningstar Australia

Any Morningstar ratings/recommendations contained in this report are based on the full research report available from Morningstar.

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