In the hours after TerraForm Power Inc.'s Jan. 13 announcement that it received a takeover bid valued at nearly $4 billion, shares in the renewable energy company jumped 10%. That spike was in keeping with the kind of strong performance that continues to propel investment in the clean energy sector and highlights a sharp contrast between renewable and fossil fuel investments.
The 10% uptick built on gains of 38% in 2019 for TerraForm, and even that performance paled next to other companies in an index of renewable energy companies tracked by S&P Global Market Intelligence. TerraForm Power's majority shareholder, Brookfield Renewable Partners LP, which offered to pay an 11% premium for the rest of the company's shares, was the group's top performer in 2019 with gains of 69%.
The proposal from Brookfield Partners — and the outperformance of renewable energy stocks generally — reflects a divergence with what has happened in the fossil fuel market, where deals for oil and gas producers offer low premiums as companies continue to lose investors' money. A basket of renewable energy stocks gained 49% in 2019, outperforming the S&P 500 by 20 percentage points, while the S&P Oil & Gas Exploration and Production index's 59 stocks in oil and gas drillers lost nearly 11% for the year.
"A week does not go by without a prominent story on the financial failures of fracking, the stumblings of oil majors and other tales of woe during this volatile downcycle," Tom Sanzillo, director of finance at the Institute for Energy Economics and Financial Analysis, wrote in a Jan. 9 analysis. The institute is focused on moving the energy space away from fossil fuels.
"Yet almost all heavy institutional investors ... remain wedded to these companies, in spite of each quarter bringing new evidence of weak revenues, distressed transactions and a negative outlook," Sanzillo said. "Most mutter about passive indexes and diversification, or feign a commitment of accountability to their clients, who apparently are crying out for stakes in an underperforming industry."
The sectors' diverging fortunes are being driven by three structural trends, according to Raymond James & Associates analyst Pavel Molchanov: improving economics of low-carbon energy; regulatory and political tailwinds driving adoption of "clean" technologies; and growing investor concern with environmental, social and governance issues.
"It is a striking fact that 26% of all U.S. professionally managed assets are covered by some kind of ESG screen, and the dollar amount (nearly $12 trillion) has tripled since 2012," Molchanov wrote in a Jan. 14 email. Among that $12 trillion, roughly $3 trillion is climate-focused.
Still, Molchanov said investors have taken an "overly negative" perspective on exploration and production stocks, saying that after the sector's underperformance in 2019, "we are quite optimistic" that the sector will perform better in 2020.
Paul Sankey, Mizuho Americas LLC managing director, noted that investors do not have to see the oil and gas sector as a single block with only one type of environmental footprint. "The impact of the [oil and gas] sector on the environment is clearly big, but steps are being taken to reduce that burden, and within the sub-sectors and companies there are nuances that make the sector investable," Sankey said Jan. 14.
Mizuho in another note on Jan. 14 added that the long-term future of the oil and gas sector is unlikely to be a draw for investors, but in the meantime, "good returns will be made by the good companies, as future demand will far exceed [current] market expectations."