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How to Cash in on a Warming Planet


Set aside, for now, the really complex and costly financial implications of climate change. Ignore the tricky abstractions of carbon trading. Forget the worries over flooded cities and the ins and outs of renewable energy.

Instead, consider just a few everyday money-making ideas created by the warming of our planet. For example, oenophiles could short the stocks of vintners in drought-prone areas such as Australia or California and bet on upstarts in Canada and England, where new wineries are sprouting as temperatures rise. Or, since ski resorts are seeing less and less snow, it might make sense to buy and hold manufacturers of snowmakers.

Of course, the potential of climate-change investing goes far beyond mere curiosities. A growing number of advisers to big institutional investors and high-net-worth types are sizing up companies based on how likely they are to benefit from rising energy prices, stricter regulations, and changes to the natural world ranging from freshwater shortages to new disease patterns and more chaotic weather. Since public opinion is increasingly driving U.S. policymakers to act, analysts' climate predictions need not be perfectly prescient to pay off. "Perception drives valuations," says Edward M. Kerschner, chief investment strategist for Citi Global Wealth Management (C), who recently made public a list of some 90 "climate consequences companies" he believes could excel as the climate changes and limits on carbon emissions multiply.

If there's a whiff of familiarity to investing in climate change, that's because some of its key elements have already attracted attention. Pure-play renewable energy stocks, for example, make up a big slice of the new climate change offerings and have seen meteoric gains over the past year. The difference is that climate change strategists make their picks from a larger pool, including everything from small-cap alternative energy startups to globe-spanning conglomerates, as well as a few decidedly nongreen plays. Given the breadth of companies in this space, "there's significant opportunity for actively managed funds," says Michael Herbst, a mutual fund analyst at Morningstar (MORN).

HOT OPTIONS

Consider HSBC's (HBC) Global Climate Change Benchmark Index, which tracks 300 equities, spans 34 countries (11 of which are emerging markets), and includes small, medium, and big companies. Simulations of the 45 months prior to its September debut show the index would have beaten the Morgan Stanley (MS) Capital International (MSCI) global index by 70%. In November, HSBC launched a fund in Europe that focuses on a subset of about 60 companies from the index. A U.S. version, the GIF Climate Change Fund, is due by April.

Deutsche Bank's (DB) DWS Climate Change Fund beat HSBC to the American market last November. It mirrors the German DWS Klimawandel fund, which since its launch last February is up 10.4%. For DWS's U.S. offering, expect somewhat pricey expense ratios of 1.75% to 2.5% of assets.

For a lower-cost approach, stock pickers can follow the pros' logic and make their own calls. Luckily, evaluating equities on their potential to capitalize on climate change is easier than untangling the complexities of global warming. A useful approach is to split the opportunities into two broad groups, explains Mark Fulton, climate-change strategist at Deutsche Bank Asset Management: mitigation and adaptation.

The first basket includes products and services that slow the flow of greenhouse gases by using less energy or by substituting clean energy for fossil fuels. That's why so many renewables such as solar and wind show up in the new climate-change funds and indices. As of September, for example, the top 10 holdings in DWS Climate Change Fund included nine that either produce carbon-free energy or help conserve fossil fuels: solar energy (LDK Solar (LDK), SolarWorld, Umicore, and First Solar), wind energy (Acciona Energia and Gamesa), electric efficiency specialists (ABB (ABB) and Emerson Electric (EMR)), and an electric vehicle maker, Tanfield Group.

Fulton's second category includes opportunities to help the world adapt to the effects of the changing climate. This group may offer hidden values in some more obscure sectors. DWS's fund, for example, owns Veolia Environment, a water-services specialist that can help parched regions adjust. Citi's Kerschner, likewise, predicts growth for Leighton Holdings, an Australian engineering contractor that is building a growing number of plants that make seawater drinkable.

SHADES OF GREEN

If anything, the greenest of investors may be put off by aspects of climate-change investing. Citi likes big nuclear plant operators such as Entergy (ETR) and Exelon (EXC), despite worries over their waste, since their reactors crank out huge volumes of juice with virtually no greenhouse gases. Fluor (FLR), a U.S. engineering construction giant, makes the cut since it's positioned to benefit from demand for new power plants, regardless of whether they're powered by clean gas, controversial nuclear, or even not-so-clean coal.

Many of the top picks among the adaptation plays are cheaper than mitigation stocks. Ormat Technologies (ORA), a leader in renewable geothermal energy, has a pricey p-e ratio of 41, based on 2008 earnings. But in the less glamorous auto sector, makers of mileage-boosting technologies may outsell competitors more reliant on gas guzzlers. By this logic, France's PSA Peugeot Citroën, which builds Europe's most fuel-thrifty fleet, stands to beat out U.S. rivals as global demand for eco-vehicles rises. Its p-e is just 9.

An upside to these broad climate-change funds is that they expose investors to plays of all sizes, in both developed and emerging markets. But tracking such a diverse portfolio requires unusually broad expertise in complex energy, technology, and cross-border markets, notes Angus McCrone, chief editor at New Energy Finance, which tracks green markets. Regulatory reversals can also dent returns. As U.S. lawmakers debated the recent energy bill this fall, renewable stocks were whipsawed on each rumor that beneficial tax credits would disappear or expand.

Back to Investment Outlook 2008 Table of Contents


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