Editorial Note: This post originally appeared on our companion blog, Fiduciary Matters, on August 24, 2016.

The development of renewables is transforming the energy sector. This has the potential to create opportunities for investors, but also risks. Two particular pitfalls to watch for are the choice of investment vehicle and the level of valuations.

Not merely change, but transformation

The scale of growth in renewable energy has been remarkable. Consider that:

  • Investment in renewable energy in 2015 totaled some $286 billion.¹
  • Of the estimated $12 trillion expenditure on power plants expected by 2040, two-thirds is in renewable sources².
  • In China (regarded by some as less committed to clean energy), 70% of capacity additions over the next 25 years are expected to be in renewables.²

So energy is a big sector, and renewables are fast becoming a key part of that sector. Driven by policy support, technological advances and attractive return potential, the degree of the shift toward renewables represents not merely change, but rather transformation.

This transformation, and the implications for investors, was the subject of a session in 2016 at the Russell Investments Institutional Summit. The session was led by Tamara Larsen (Head of Private Markets Research), who was joined by Kristina Johnson (Co-Founder & CEO of Cube Hydro) and Andrew Greenup (Deputy Head of Global listed Infrastructure at Colonial First State.)

Pay attention to vehicle and valuation

Every investment opportunity carries its own risks, and two potential traps in particular were highlighted in the session: the choice of investment vehicle and the level of valuations.

On the first of these, the panel pointed out that a good underlying investment cannot overcome a poorly structured investment vehicle. Renewables is a fast-growing sector and until recently was something of a niche investment area for institutional investors. Successful investment will require identifying the right spot in the energy development chain for capital allocation and finding suitable investment vehicles: not straightforward tasks. This is where an expert can help many investors find the right vehicles to match their particular desired outcomes.

As to valuations, most investments are rarely a good investment if made at the wrong price. Hot-topic status can shift sentiment and lead to inflated prices: renewables have attracted a lot of attention and prices in some areas have been pushed up as a result.

Becoming mainstream

It seems clear, though, that renewables are moving from the sidelines to the center of the energy sector. Technology is changing fast and the course of development can be unexpected; policy support (which has been a major factor in recent growth) is similarly unpredictable. Hydro, solar, wind, nuclear: each area is distinct and will develop differently. Nobody can be completely sure, for example, of the implications of advances in storage capabilities or a decarbonized transport system.

These are just a few of the considerations coming out of the transformation of the energy sector, giving investment managers and institutional investment programs plenty to think about. Always consult an expert for advice on such investments.

¹Source: The United Nations Environment Programme, Frankfurt School of Finance & Management, Bloomberg New Energy Finance²Source: Source: Bloomberg New Energy Finance

Disclosures:

These views are subject to change at any time based upon market or other conditions and are current as of the date at the top of the page.

Investing involves risk and principal loss is possible.

Past performance does not guarantee future performance.

This material is not an offer, solicitation or recommendation to purchase any security. Nothing contained in this material is intended to constitute legal, tax, securities or investment advice, nor an opinion regarding the appropriateness of any investment, nor a solicitation of any type. The general information contained in this publication should not be acted upon without obtaining specific legal, tax and investment advice from a licensed professional. The information, analysis and opinions expressed herein are for general information only and are not intended to provide specific advice or recommendations for any individual entity.

Please remember that all investments carry some level of risk. Although steps can be taken to help reduce risk it cannot be completely removed. They do no not typically grow at an even rate of return and may experience negative growth. As with any type of portfolio structuring, attempting to reduce risk and increase return could, at certain times, unintentionally reduce returns.

Investments that are allocated across multiple types of securities may be exposed to a variety of risks based on the asset classes, investment styles, market sectors, and size of companies preferred by the investment managers. Investors should consider how the combined risks impact their total investment portfolio and understand that different risks can lead to varying financial consequences, including loss of principal. Please see a prospectus for further details.

Russell Investments' ownership is composed of a majority stake held by funds managed by TA Associates with minority stakes held by funds managed by Reverence Capital Partners and Russell Investments' management.

Frank Russell Company is the owner of the Russell trademarks contained in this material and all trademark rights related to the Russell trademarks, which the members of the Russell Investments group of companies are permitted to use under license from Frank Russell Company. The members of the Russell Investments group of companies are not affiliated in any manner with Frank Russell Company or any entity operating under the "FTSE RUSSELL" brand.

Copyright © Russell Investments 2017. All rights reserved.This material is proprietary and may not be reproduced, transferred, or distributed in any form without prior written permission from Russell Investments. It is delivered on an “as is” basis without warranty.

UNI – 10990

© Russell Investments

Read more commentaries by Russell Investments