Soaring power prices have caused chaos in the energy industry with a number of smaller electricity and gas suppliers going bust or on the brink. Prices spiked last week having already strengthened notably during 2021, which has proved fatal, if not hugely damaging for energy businesses that have not sufficiently ‘hedged’ their position. They faced selling power at levels well below market rates, which have trebled in little over a month.
This tight market is being driven by the combination of reduced supply from Russia, shutdowns at some gas-fired plants and reduced wind generation resulting from an unusually still period across Europe. Wind turbines are simply not turning at their ‘normal’ rate. Although the summer months are not the most significant for wind generation, the average daily speeds have been markedly below historical levels. The reduced supply is against a backdrop of rising global demand as economic activity continues to pick-up post-Covid.
Impact on renewables investment trusts
Power prices, along with rate of generation, are typically the most significant variables for investment trusts specialising in renewable power such as The Renewables Infrastructure Group (TRIG), Foresight Solar and Greencoat UK Wind (UKW). These infrastructure trusts own wind farms and solar power plants. Higher power prices lead to larger forecast revenues from the sale of electricity to offtakers. However, the impact of the recent spike in prices is muted for two reasons.
Firstly, to varying degrees, most generators seek to reduce their exposure to erratic power pricing, for exactly the reason that short-term volatility impacts the predictability of revenue streams. Most renewable funds have a large percentage of their cashflows insulated from power price changes, both positive and negative. Having pre-contracted revenues or ‘hedging’ strategies in place through derivatives contracts evens out cashflows and calculations of net asset value.
In addition, Trusts are more sensitive to the long term direction of power prices rather than short term moves. Cashflows are progressively less likely to be covered by pre-contracted arrangements, subsidies or hedging arrangements further into the future.
According to research from Numis, Greencoat UK Wind currently has the smallest percentage of contracted revenues in the sector (48% for 2021) and potentially has the greatest scope for cashflows to benefit. The Renewable Infrastructure Group (TRIG) is 79% contracted.
Although the direct impact on cashflows and net asset values is therefore muted, the recent increase in power prices will likely be positive if it results in forecast prices over the long-term moving higher. However, until recently the direction of the price ‘curve’ has been downwards in recent years as more renewable generation has come on stream.
For the Trusts with exposure to wind generating assets the other side of the coin to increasing near-term revenues from higher prices has been the lower output resulting from a comparatively benign, wind-less summer across Europe, which could go some way to offsetting any positive impact. As we move into the autumn months wind speeds are likely to pick up, driving output and revenue, thus helping to address the imbalance as well as potentially alleviating some of the market price spike.
Another usual balancing effect of renewable portfolios has been less effective of late. Historically, periods of low wind generation have been correlated with higher solar power generation levels and therefore portfolios diversified by technology have been complementary. Yet generation from comparatively stable solar assets has been a bit lower than average in recent months, and isn’t likely providing its usual level of ‘offset’.
Renewables infrastructure trusts carry a higher risk profile and remain heavily influenced by the long term
power price curve, as opposed to the short term volatility we are seeing. Despite this we are still attracted to the scale and diversification that larger trusts such as TRIG and UKW offer as part of a broad income-producing portfolio. However, due to the very specialist nature and esoteric risks surrounding this asset class we do not include any on our Direct Investment Service Preferred List our curated list of investments for new investment in their respective sectors.
As renewable subsidy regimes are gradually phased out over the next decades and subsidy-free assets make up a great proportion of portfolios, active hedging and balancing strategies will play an increasingly important role in enabling these funds to secure pricing visibility and certainty of income.
Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.
How is the soaring power price affecting renewables trusts?
Read this next
We Need To Talk About Investing - Ep. 4: What are ETFs?See more Insights