Clean energy stocks have fallen out of favor. They face more challenges ahead

New York (CNN) — Clean energy stocks are out of vogue, as higher interest rates and lagging efforts to combat climate change dog the sector. Those obstacles might not go away anytime soon.

The iShares Global Clean Energy exchange-traded fund, which tracks the performance of sectors from renewable electricity to semiconductors to solar energy, has slumped 27% this year, underperforming the MSCI All-Country World index’s 15% gain. The fund is on pace for its third straight annual loss.

Plug Power shares have slipped 63% this year, Enphase Energy shares have plunged 60%, SolarEdge Technologies shares have declined 71% and NextEra Energy shares have slid 29%.

The Biden administration’s sweeping Inflation Reduction Act promised $750 billion in funding for health and climate projects. Since its passage last year, more than 270 new clean energy projects have been announced, with $132 billion in private investments, according to a Bank of America report released in August.

Yet clean energy stocks haven’t recovered, despite hopes that an influx of US government spending on climate solutions would help revive the sector.

The culprit behind clean energy stocks’ poor returns? Interest rates are perched at a 22-year high after the Federal Reserve began its aggressive rate hiking campaign last March, driving up borrowing costs for growing companies trying to load up on capital. Supply chain snarls have further complicated matters.

Money managers say that while some clients are interested in owning shares of sustainability-driven companies, those challenges make it difficult to simultaneously maximize portfolio returns.

Expectations that rates will remain elevated at least through the beginning of 2024 could keep the lid on those firms’ earnings. Clean energy names tend to trade on their future earnings potential, since they’re part of a fledgling sector. But there are concerns that these stocks are pricey relative to their current balance sheets, despite their steep decline this year.

“There are some really rosy assumptions being baked into the share prices” of clean energy companies, said Todd Jones, chief investment officer at Gratus Capital.

Jean Rosenbaum, senior portfolio manager at GYL Financial Synergies, says her firm has pared back its clean energy exposure in recent months on concerns about weakening corporate earnings due to elevated rates. Clean energy investments make up under 5% of her firm’s assets.

Some investors say that the slow global transition to clean energy has also dampened their enthusiasm.

Eight years have passed since the Paris Agreement was approved to slow Earth’s warming to well below 2 degrees Celsius, or more ideally to 1.5 degrees. Since then, in part because of the lack of specific action laid out in the plan, the more than 190 countries part of that agreement have made little headway in achieving those goals.

Andrew Poreda, vice president at Sage Advisory, says that higher rates have also hurt consumers seeking a transition to using clean energy. Switching to a residential solar system, for example, requires thousands of dollars that might be sought in a loan, now possibly prohibitive due to high borrowing costs, he says.

That’s not to say investors are giving up entirely on sustainability investing.

Peter Krull, director of sustainable investments at Earth Equity Advisors, manages a portfolio that focuses on stocks in industries from alternative energy to battery technology to green transportation.

That portfolio has overall outperformed the MSCI World All Cap Index since its creation in 2012, though its taken a hit in recent years. Krull sees the current rut in clean energy stocks as a buying opportunity for investors.

Clean energy stocks also aren’t the only way investors are putting their cash to work with a sustainability mindset. Shares of Nvidia, the artificial intelligence powerhouse that has soared 220% this year, are part of Krull’s firm’s portfolio.

Artificial intelligence has dominated Wall Street this year, powering monster gains in shares of mega-tech companies. Experts say that AI will be a key tool in accelerating climate change solutions from reducing pollution to replanting.

“A lot of people’s impression of sustainable investing is buying solar or buying wind, but at the end of the day, it’s more about the systems that we can improve,” Krull said.

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