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There appears to be no relief in sight for consumers. Crude oil is projected to average 12% more in 2006 than in 2005, while natural gas is forecast to be 9% higher, according to the Energy Information Administration, the statistical arm of the U.S. Department of Energy.
As conventional sources of energy get pricier, "alternatives" may become more attractive--for investors as well as for consumers. "There may be volatility in the short run, but the long-term trends are favorable for investments in alternative energy," says Richard Stuebi, president of NextWave Energy, a consulting firm in Denver.
Even President Bush is promoting the sector. In his televised State of the Union address, he called for expanded research into a form of ethanol derived from agricultural waste. "Breakthroughs on this and other new technologies will help us reach another great goal: to replace more than 75% of our oil imports from the Middle East by 2025," he said. Bush also unveiled plans to expand clean-energy research at the federal level and touted zero-emission, coal-fired power plants, solar and wind technology and "clean, safe nuclear energy."
DEFINING THE ALTERNATIVES
But what exactly is alternative energy? For some analysts, it simply means natural gas. "Among socially responsible mutual funds, we don't see much interest in niche plays such as fuel cells," says Greg Carlson, an analyst at Morningstar. "If they invest in energy, it's usually in natural gas companies." To managers of these funds, natural gas is presumably cleaner and safer than coal and gasoline.
Others take a much broader view. "Anything different from the norm might be considered alternative energy," Stuebi says. "That could mean anything other than coal or natural gas for power generation or refined petroleum for transportation." Such a definition might embrace oil from shale or tar sands, so-called "clean coal" processes or even nuclear power.
Indeed, the term "alternative energy" is not accepted by everyone with an interest in this area. "We prefer to use 'clean energy' when we're discussing this sector," says Ron Pernick, principal of Clean Edge, a research and publishing firm in Portland, Ore. Others focus on "renewable energy," as distinct from fossil fuels that can be depleted rapidly.
The alternative-energy space can cover a lot of territory, and by most definitions, that space is expanding. Clean Edge, for example, sees the clean-energy market as threefold: solar, wind and fuel cells (which make electricity from hydrogen and oxygen). The firm puts the total market for these technologies at slightly more than $16 billion in 2004 (a 70% rise from 2002) and projects that it will grow more than sixfold by 2014, to $102 billion. Most of that money will go into wind (a projected $48 billion) and solar energy ($39 billion).
Stuebi points out that wind and solar energy experienced a boom-and-bust cycle in the 1980s. So why are they likely to pay off now? "The technology has been developing for 30 years," Pernick says. "Some companies are offering more energy efficiency at a lower cost. You see that with solar energy, for example."
According to the American Solar Energy Society, the average price of energy captured by solar-electric modules is now $0.20 per kilowatt-hour, down from $0.95 in the 1980s. (The average national price of electricity is around $0.80 per kilowatt-hour, as of last report.) The playing field might not be level yet, but prices seem to be moving in that direction.
WHERE TO LOOK
If today's solar and wind companies will become tomorrow's ExxonMobils and Chevrons, financial planners might want to allocate some client dollars to this sector. Here are some possibilities:
Large companies. One place to start is large-cap companies that are active in alternative energy, Stuebi says. Buying stock in corporations such as General Electric (which purchased Enron's windmill business) and BP, the company formerly known as British Petroleum (which just created a BP Alternative Energy unit which plans to spend $8 billion over the next 10 years), will allow clients to participate in these evolving markets. "Every day, it seems like you read about a large company announcing that it will spend billions to develop alternative energy," Pernick says.
Such mega-cap stocks may offer familiarity and relative stability as well as a play on alternative energy. "They're not pure plays, though," Stuebi explains. If only a small portion of corporate revenues come from alternative energy, growth in this area may not move the stock much.
"However, it's tough to argue that Toyota's stock hasn't benefited from interest in alternative energy," says John Quealy, vice president of equity research at Canaccord Adams, a financial services firm in Boston. Toyota's American Depositary Receipts have risen from about $70 to more than $100 in the past six months, while Ford and GM stock have tanked; strong sales of Toyota's Prius gas-electric hybrid car undoubtedly contributed to the firm's performance.
Another large-cap possibility is Archer Daniels Midland, the nation's largest producer of ethanol, whose stock is up 60% since last May. This year, GM and Ford hope to sell a total of 600,000 vehicles that can run on "E85," a blend of 85% ethanol and 15% gasoline; both companies have stepped up marketing in this "flex-fuel" area. Other familiar names include Air Products & Chemicals, a supplier of hydrogen, and Kyocera, a diversified Japanese company that has a presence in solar energy and trades in the U.S. as an ADR.
Small companies. Most of the companies in the alternative-energy sector range from small to very small. Quealy is upbeat about the prospects for Impco Technologies, which produces systems that convert an engine to use natural gas or propane instead of diesel or gasoline, and Fuel-Tech, which offers clean-coal technology. (Impco Technologies is an investment-banking client of Quealy's firm, Canaccord Adams.) But these pure plays are not for the faint of heart.
"Many of the companies in this group are highly volatile, and sentiment can shift quickly," Quealy says. "Investors should be aware of the speculative nature of such stocks; they have a lot of promise, but also a lot of risk." Clients who want a pure play on alternative energy, rather than a piece of a giant conglomerate, shouldn't overload in this sector.
"If you're thinking about investing in small alternative-energy stocks, the first thing to look at is the amount of cash on the balance sheet," says Walter Nasdeo, managing director of New York-based Ardour Capital Investments. "Get an idea of how quickly they are burning cash and how long it will be before the operation may be profitable. There are a lot of good opportunities out there, but not every alternative-energy company will be a winner."
Timing may be an issue, too-last year's surge in oil prices also drove up the cost of many alternative-energy stocks. Is there a chance that investors could be buying into a bubble? "There is that potential, especially on the solar side," Quealy says. "Price increases have outpaced earnings growth."
Apparently, some sophisticated in-vestors are taking this risk; Stuebi notes that venture capitalists and private equity funds are putting money into alternative energy. In some cases, they are already seeing rewards. "In 2005, the three largest technology initial public offerings were solar companies," Pernick observes.
Funds. One way to reduce the risk of investing in small companies is to diversify. Quealy says that investing in several promising alternative-energy stocks, with different technologies, is a reasonable approach, while Stuebi advocates investing in a broad basket to reduce volatility.
Among mutual funds, the New Alternatives Fund emphasizes alternative energy, according to Morningstar's Carlson. This small-blend fund, which has $60 million in assets, has been investing in alternative energy for more than 20 years. It was up 15% annually over the three-year period ending Dec. 31, 2005.
"Many of our holdings are foreign companies," says David Schoenwald, co-manager of the fund, which is based in Melville, N.Y. "Alternative energy companies from outside the United States tend to have lower price-earnings ratios than domestic ones do. Some of our foreign holdings are further along the learning curve, so they have earnings, and some pay dividends." At the end of 2005, the fund's top two holdings, Acciona and Gamesa, were based in Spain, and firms from nine other countries were on the roster.
Michael Lent, principal of Progressive Asset Management (PAM) in New York, says his clients get alternative-energy exposure via the Winslow Green Growth Fund. "It's not a pure alternative-energy play, but it does invest some of its assets in that area," he says. The fund has a stellar record (returning nearly 20% a year for the past 10 years), but less than 8% of its assets were invested in energy at the end of 2005.
For more exposure to alternative energy, Lent, whose firm provides socially responsible investment products and services to financial advisers, also recommends that clients invest in PowerShares WilderHill Clean Energy Portfolio, an exchange-traded fund (ETF) that tracks the WilderHill Clean Energy Index. As of late January, the ETF had gained 23.72% since it debuted in March 2005.
DOWN THE ROAD
Such performance has money pouring into alternative energy. Both foreign countries and state governments have played a role in swelling the torrent. "Denmark expects to be getting 25% of its electricity from wind power within a few years," Pernick says. "California has set a goal of getting 20% of its power from renewable energy sources by 2017; the way things have been going, that goal might be reached by 2010."
Although the future looks bright, what could stunt the growth of the alternative-energy market? Falling oil prices, for one. "If oil drops below $40 a barrel, interest could decline," Stuebi says, although he doesn't believe that's likely to happen. "Prices probably will be high for a while," he says. "Oil companies are not finding as many reserves as they're using. This game is running out, so we need to move on to the next game."
The nature of the next game, though, is far from certain. "In the future, there probably won't be two dominant technologies, such as coal for power plants and oil for vehicles," Stuebi says. "Fragmentation will be the way of the future, so there will be plenty of room for various technologies."
There likely will be plenty of investment choices, too. Planners with clients who are environmentally conscious, want to cash in on an alluring growth industry or both, may want to evaluate some promising power plays.
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