Morningstar - Winter 2019 - 47

Investing in the Future of Energy
The Morningstar North America
Renewable Energy Index harnesses
a secular shift.

of investors sensitive to environmental concerns
continues to increase around the globe.
Whether an investor's call to action is inspired
by the perception of an attractive risk/
reward proposition, or simply by a desire to engage
in responsible investing, the Morningstar North
America Renewable Energy Index provides a
unique exposure to the secular trend of renewable
energy adoption.
Diversified and Differentiated

MORNINGSTAR INDEX INSIGHTS

Andrew Lane

Efforts to combat climate change are taking on
greater urgency. According to the United Nations
Intergovernmental Panel on Climate Change,
renewable energy sources must supply 70% to 85%
of electricity needs by 2050-that is, if the
global temperature increase is to be limited to 1.5
degrees Celsius over preindustrial levels
and the direst consequences of climate change
are to be averted.
With strong encouragement from governments,
renewable energy represents an area of
tremendous innovation. Top-down government
mandates have catalyzed renewable energy
development at the expense of investment in
nonrenewable energy sources like coal, petroleum,
natural gas, and uranium. For example,
Germany now produces more electricity from
renewable energy sources than coal and
nuclear power combined-48% of the country's
electricity generation is now supplied
from renewable energies, up from 18% just
a decade ago.
Furthermore, Norway's $1-trillion sovereign wealth
fund, the largest in the world, announced in
early 2019 that it would close out all investments
in firms that pursue oil and gas exploration, except
for those that also offer renewable energy
operations like BP BP and Royal Dutch Shell RDS.A.
The nation's parliament voted in favor of
a $13 billion divestiture of oil, gas, and coal
investments while simultaneously allowing for up
to $20 billion of investments in renewable

energy projects and companies. Norway's
Minister of Finance, Siv Jensen, indicated that
the shift is not policy-driven but rather strategic
from an investment standpoint. It reduces
the fund's exposure to the historically high
volatility of fossil-fuel-related investments and
adds exposure to the secular growth story
for renewable energy.
Pertaining to the risks associated with a reliance
on fossil fuels, the World Bank's "The Changing
Wealth of Nations 2018" white paper noted:
"Carbon wealth is becoming increasingly risky
because of price uncertainty. Furthermore,
large-scale attempts at global decarbonization
may diminish the value of carbon assets
and undermine traditional development pathways
for carbon-rich nations... Significant cost
reductions in alternative energy technologies-
such as solar and wind power-may soon
begin to undercut the costs of extracting oil, gas,
and coal, thus leading to potential reductions
in fossil fuel consumption."
The elevated capital costs associated with
building out renewable energy capacity have been
a limiting factor for development. However,
this dynamic has begun to shift in recent years.
Morningstar's equity research analysts
expect that capital costs for renewable energy
capacity will continue to decline, making
the value proposition for renewable energy more
attractive going forward.
The growing adoption of renewable energy
represents a seismic shift to how companies
conduct business, while the proportion

Investors have a wide variety of investment
strategies focused on renewable or clean energy.
However, most of these strategies focus on
individual nodes of the renewable energy supply
chain, leading to industry homogeneity across their
holdings. As a result, many of these strategies
can be subject to the same degree of volatility that
has roiled energy indexes that are heavily
leveraged to the fossil fuels in recent years.
The Morningstar North America Renewable
Energy Index reflects the notion that involvement
in renewables can take many forms. Some
companies operate energy-generation facilities
using naturally replenished sources-sun,
wind, and water. Others offer products or services,
such as wind turbines or hydrogen fuel cells,
that support clean power. Then there are firms
applying renewable technologies to the
field of transportation (electric cars, for example).
Finally, there are companies that rely on
renewables to meet their own needs, thereby
reducing carbon emissions.
Along these lines, the Morningstar North America
Renewable Energy Index represents a differentiated offering, providing exposure to companies
that operate across the full renewable energy
supply chain. This includes innovators, suppliers,
adopters, and end users. While staying true
to the broader secular trend toward increased
renewable energy adoption, the index construction
provides a wider range of sector and industry
exposures than other similar offerings. There are
20 similar investible strategies currently
available to investors, but each of these strategies
tends to concentrate assets into very few
sectors. The Morningstar index, however, has
at least some exposure to every economic sector
as of July.

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Morningstar - Winter 2019

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