Clean energy: Investment case for wind and hydrogen

Executive Summary

Clean energy has been one of the biggest investment themes of the past few years, with more than 80 ETFs now available globally that provide exposure to either broad clean energy or a specific renewable energy such as solar or wind. They have gathered over US$24 billion of net new assets since the start of 2020¹, as investors look to capture the long-term growth potential from companies driving the transition to greener sources of energy. The difference between today’s investment opportunities and those during the “clean energy boom” just after the turn of the century is that we now have a combination of widespread global commitment and significantly improved economics supporting the clean energy transition.

The 193 signatories to the Paris agreement on climate change have pledged to take decisive action towards decarbonisation, with clean energy, alongside energy efficiency gains, providing 90% of the carbon emission (CO₂) reductions needed by 2050. If we are to meet these climate goals, solar and wind power will generate most of the world’s electricity, including the additional capacity required for charging electric vehicles and producing green hydrogen, which will provide power for what cannot be electrified, including for the shipping, aviation, steel and concrete industries, as well as industrial and residential heating.

Recent events have impacted the drive towards clean energy solutions, although the objectives of a “net zero” carbon economy remain fully intact. If anything, the supply disruptions due to the Russia-Ukraine conflict has highlighted the danger of relying so heavily on an external supplier for energy needs, especially when prices can be so volatile and influenced by geopolitics. Domestic energy production sourced outside the scope of volatile fuel prices would be the most obvious solution for most countries, although it is worth flagging the headwinds of inflation and recession concerns.

This paper incorporates market insight from Dr Rob Wilder, CEO and Co-founder of WilderHill Indexes, to explore:

• How recent events have affected the course of the transition to cleaner energy;
• What governments are doing about their pledges to the Paris agreement on climate change; 
• The economic impact of technological advances in key segments; and
• The cases for wind and hydrogen from the perspectives of both potential solutions to climate change and their potential for inclusion in diversified equity portfolios.

Current climate for clean energy solutions

The rationale for adopting renewable and other clean energy solutions as part of the wider goal of decarbonisation remains intact, although energy security is now perhaps more of an immediate priority for many countries rather than the previous focus on the environmental urgency. Achieving a “net zero” carbon economy is still the objective for the 193 signatories² to the Paris Agreement, but particularly close attention should be paid to recent developments:

• The impact of the Russia-Ukraine conflict and the disruption to natural gas supplies increases the urgency for many countries to diversify away from their dependency on fossil fuels;
• Delays and cancellations to some planned renewable energy projects mean additions to capacity have fallen behind schedule and need to be addressed; and
• The economic reality that has surfaced in the past two years highlights the importance of making the transition to renewable energy financially viable for everyone involved.

With winter fast approaching, European countries are facing the real possibility of gas shortages, rationing and blackouts. The Nord Stream pipeline – supplying 40% of Russia’s gas to the European bloc – has yet to return to full capacity following its scheduled maintenance in July. Despite high prices and reduced supply, the EU announced it had already reached its target of having its natural gas storage to 80% by the start of November. That said, these stockpiles normally provide only 25-30% of their needs during a typical winter. Without being able to accurately forecast the severity of this year’s winter, the EU has announced emergency “Save Gas for a Safe Winter” rationing plans.

Meanwhile, inflation continues to be a spanner in the works. Some renewable energy projects – mainly solar – have been delayed or cancelled due to rising costs and supply disruptions. Margins are compressing, but this is certainly not specific to the renewable energy space. Rising costs of raw materials, labour, shipping, etc. are impacting every sector and construction project. Households are being hit even harder, dampening their ability to spend on solar panels and other high-ticket items.

That said, 2020 and 2021 were record years in clean energy, and the rest of the decade looks set for even stronger growth. Of the US$755 billion spent globally during 2021 in the wider clean energy industries, US$365 billion was spent in new renewable energy investments, a 7% increase year-on-year, while US$24 billion was invested in hydrogen, carbon capture and storage (CCS) and sustainable materials. BloombergNEF estimate that annual investment needs to increase more than five-fold between now and 2030 to meet Paris goals.

A landmark year is around the corner

Signatories to the Paris agreement have agreed to reach Net Zero by 2050, or 2060 in the case of China and 2070 for India, with most countries setting their own interim targets to align with initiatives and government funding secured during a certain term. The first big milestones are set for 2030, with accomplishments by then giving us the odds of reaching the Net Zero goal by 2050. This should provide significant opportunities for the companies involved – and for their investors.

In terms of wind and despite the forementioned delays to some projects, the amount of new wind capacity added in 2021 was only fractionally behind the record amount in 2020. Data³ from the Global Wind Energy Council (GWEC) shows the 93.6 gigawatts (GW) added last year brings the total amount of wind capacity globally to 837 GW. Putting this into perspective, the International Renewable Energy Agency (IRENA) and the International Energy Agency (IEA) estimate more than 8,000 GW of wind capacity will be needed by 2050 to reach Net Zero. This total capacity is expected to result in wind generating more electricity in 2050 than any other energy source.

Approximately 78% of the wind capacity added last year was in onshore wind installations. While the 22% added to offshore may be small in comparison, it’s worth noting that 2021 was a record year, taking the total offshore capacity to 57 GW globally. China overtook the UK as the leading market for offshore wind, although the UK continues to increase the amount of capacity from floating platforms in deeper water. The EU added 18.1 GW of new wind capacity in 2021 but fell significantly short of the 32 GW needed to be added annually between now and 2030 if it is going to meet 2050 goals.

Clearly, a great deal more must be done if we are going to meet the 2030 milestones needed to reach carbon neutrality by 2050. Not only does wind hold the key for greener electrification but it will be crucial in the generation of the green hydrogen needed for the decarbonisation of shipping, aviation, other transportation, as well as the steel and cement industries, and industrial heating. BloombergNEF predicts hydrogen could meet up to 24% of the world’s energy needs by 2050⁴.
 

Relative costs look set to continue improving

Currently, green hydrogen is still more expensive to produce than fossil fuel equivalents as well as hydrogen from other processes, but technological improvements and increasing economies of scale should make green hydrogen much more competitive. The International Renewable Energy Agency (IRENA) expects green and blue hydrogen production to be cost competitive by 2030⁵.

Green hydrogen will be competing with the everyday electricity demands feeding off the same renewable energy, meaning that as wind and solar capacity is increased, policy decisions need to be made as to what gets priority. Energy-intensive industries without suitably low-carbon alternatives, e.g., steel, chemicals, shipping and long-haul aviation, could be more important to convert to hydrogen sooner than, for example, automobiles, which already have electric vehicle options.

Other renewable energy costs are also expected to come down following already sharp falls over the past decade. According to the BP Energy Outlook 2022, the levelized costs of electricity (LCOE) generated from wind and solar are expected to decline by 20-25% and 40-55% respectively by 2030. Reduced costs making new wind and solar farms even more economically attractive compared to fossil fuel alternatives should help drive the increased capacity of these renewable energy sources. 

The European and UK nuclear power industries – expected by many to be critical for bridging the energy supply gap – have run into difficulties in 2022, which offers a good case study to compare the costs of building a new nuclear plant versus a renewable alternative. When EDF Energy signed contracts with the British Government in 2013 to construct Hinkley Point C (HPC), the nuclear plant would produce electricity at a rate of £92 per megawatt-hour (MWh), rising with inflation (equivalent to £106/MWh in 2021). This was significantly cheaper than a new offshore wind farm at the time. However, HPC is now more than a year behind schedule and £8 billion over budget, while offshore wind farms are now generating a megawatt hour for less than £50. Wind is now significantly more cost-effective than nuclear.
 

What has been happening at the government level

In August this year, California became the first state in the US to announce a ban on the sale of new combustion-engine cars and light trucks from 2035, with others likely to follow with similar if not identical proposals. Today’s power grids would not be capable of handling the additional load required from the number of electric vehicles (EVs), even though existing gasoline- and diesel-powered vehicles will remain on the road. In a scenario where all vehicles were electric, it is estimated that California would need more than 40% of additional electrical power just for the cars. Much of this additional capacity will come from new onshore and offshore wind installations.

The US Congress passed a Bill that includes around US$370 billion of spending on clean energy programs over the next decade and tax credits for individuals buying solar panels, wind turbines, charging stations and other renewable solutions. The Bill also allocates funding for research and development of hydrogen and carbon capture technologies. These initiatives could make the transition to clean energy more affordable for a greater proportion of the American population.

The UK has committed to having 95% of its electricity needs provided by low-carbon sources by 2030, including up to 50 GW of offshore wind capacity. The UK’s plan is for the grid to be completely decarbonised by 2035. UK solar capacity is expected to ramp up from 14 GW to 70 GW by 2035. Germany has even more ambitious plans to increase its solar capacity from 22 GW to 215 GW, within the EU’s overall target of 600 GW of solar capacity by 2030. The EU will also dramatically reduce the time and red tape required for granting permits for new wind and solar farms.

China has been adding significant renewable capacity since it began preparing for the 2022 Winter Olympics. With 342 GW capacity in 2020, this seemingly huge nominal amount of renewable energy accounted for only 14% of its total 40,170 TWh of power needs. The problem with China is most of its enormous annual energy consumption still comes from coal. A commitment to installing 1,200 GW of new wind and solar capacity by 2030 is a start.

How that translates to real life

With currently available technology, it would take more than 3 million solar panels to produce 1 GW of power, or approximately 333 onshore wind turbines or around half as many offshore turbines. One onshore turbine produces around 3 MW compared to 6 MW from an offshore turbine roughly the same size. Larger offshore wind turbines planned for future installations are expected to produce up to 17 MW, meaning fewer will be needed to produce an equal amount of energy.

Wind turbines are efficient in converting renewable energy. In the UK, for example, one rotation of the largest bladed wind turbine could power a house for a day, with the prospect of larger blades providing twice that. In 2020, wind provided 25% of the UK’s power for the year, and that is anticipated to grow to at least a third of the annual power by 2030. The EU lags the UK with 16% of European power from wind in 2020, but that figure is also set to grow over the coming years.

The combination of wind and solar energy is the practical solution for most countries to provide for their annual power needs. Northern Europe is currently leading the way, with 84% of Iceland’s 2020 gross electricity consumption met by renewables, followed by Norway (77%), Sweden (60%), Finland (44%) and the UK (42%). Belgium and the Netherlands were among the laggards at 13% and 14% respectively.⁶
 

What is hydrogen energy?

Hydrogen is the most abundant chemical element in the world and an effective way to store and transport energy that, when released, produces no harmful greenhouse gas emissions. However, not every process used to produce the hydrogen is entirely emission-free. A colour spectrum is used to identify the process used.

Grey hydrogen – currently the most widely used – involves a process known as steam methane reformation whereby natural gas and steam (heated water) are combined, producing hydrogen but also emitting carbon dioxide as a by-product.

Blue hydrogen also uses steam reformation but incorporates carbon capture and storage (CCS) technology to trap the harmful carbon emissions. Obviously, this is an improvement over grey hydrogen and is seen as part of the immediate solution to reducing carbon emissions.

Green hydrogen is the best solution from an environmental perspective. It uses electricity produced from renewable energy such as solar or wind power to drive an electrochemical decomposition of water. This reaction splits water into separate hydrogen and oxygen components, with no harmful gases emitted during the process.

In the Net Zero by 2050 scenario, the amount of low-carbon hydrogen supply is projected to be 47 million tonnes in 2030 (45/55% split between blue and green hydrogen) and increase to nearly 445 million tonnes by 2050, with two-thirds of that from green hydrogen.  

Accessing wind and hydrogen themes through WilderHill indices

As constructors of the world’s first clean energy equity indices, WilderHill offers unparalleled expertise in climate index solutions. WilderHill’s index advisory committee is comprised of eight prominent individuals from the worlds of climate science, technology, politics and communication.  

Unlike many of their competitors, WilderHill applies an equal-weighted methodology, partly to reduce concentration risk but also to grant meaningful exposure to each constituent. It also typically results in more exposure to mid- and small-caps compared to market-cap weighting.

The WilderHill Wind Energy Index aims to capture exposure to onshore and offshore wind energy with broad and diversified exposure to around 50 stocks. The index currently includes companies in four sectors in the wind energy industry. 

Companies are identified based on having meaningful exposure to wind energy, with a company being required to have the primary part of its business activities focused on onshore and offshore wind energy, and without significant fossil fuel exposure. As at 1 September 2022, in terms of the four sectors mentioned above, 29% of the index was in companies grouped in wind farms, 25% in wind innovation, 24% in wind materials and 22% in smarter grid.

One of these smarter grid companies is an Italian company which provides cables, accessories and services for all wind power generation applications, from the generator to the grid, helping wind turbine manufacturers around the globe harness the true potential of wind energy. The company delivers innovative, sustainable and cost-effective cable solutions for offshore wind projects.

The WilderHill Hydrogen Economy Index is a broad and diversified portfolio of around 50 stocks across six sectors in the transition to a low-carbon, hydrogen economy. 

Companies are identified based on having meaningful exposure to the hydrogen economy, with a company required to have the primary part of its business activities in new energy innovation, and without significant fossil fuel exposure. As at 1 September 2022, in terms of the six sectors mentioned above, 21% of the index was in companies grouped in green hydrogen, 19% in hydrogen generation, 17% in hydrogen innovation, 17% in fuel cells, 13% in hydrogen storage and 12% in hydrogen in transportation.

One example of a hydrogen storage company in the index is a South Korean company which provides solutions for the storage, transportation and utilisation required in the transition to hydrogen and other sustainable solutions. The company is producing the world’s largest fuel tanks for fuel cell electric vehicles, as part of the company’s contribution towards a hydrogen economy.

Find out how to access these WilderHill indices through Invesco ETFs.