In 2011, after three years of operations, our flagship portfolio, the Green Alpha® Next Economy Index (or GANEX) saw its first year of losses and benchmark underperformance. Our portfolios have experienced volatility from the beginning, and as we have now seen, volatility can and does move prices rapidly in both directions, both up and down. But, surprising as it may sound, we don’t believe 2011’s performance will have undue influence on the longer term returns of our investment strategies.
We believe this because we’re different: we spend our days figuring out which technologies, systems, means of production and general business approaches are going to work well and thrive in a changing economy characterized by things like resource constraints, increasingly severe weather, growing world populations and conflict, and, eventually, real limits to and costs on carbon. As such, we love our portfolios’ long term performance prospects. Because even if congressional gridlock or Wall Street greed stagnate the overall economy for years to come, the next economy (or, if you like, green economy) aspects and proportions of world economies are going to have to grow. Because the alternative to accelerating the growth of the next economy is continuing, to the extent possible, the growth of the destructive, business-as-usual economy, which is based on finite fossil fuel resources that destroy health, damage Earth’s climate systems, and undermine our economic and physical securities.
Since we seek to invest in the best business solutions to civilization’s primary threats, we by definition have a high level, long term view. ‘Macroeconomic’ may not be sufficient to describe our approach…’planetary-economic’ might be more like it. We work hard to model an economy for the day when the equations of earth’s economy and global ecology must be made to balance for the preservation of both. For make no mistake, the time has come when the two are mutually dependent, and we can no longer court the failure of either if we aspire to continue on with civilization and the natural world as we have known them. The day is today.
Subsequently, we don’t worry about things like what’s going on with short-term interest rates, or consumer surveys or what the CPI seems to be saying this month. In the face of the technological and production function changes that are now required of us, short term numbers like that are ephemera that can serve only as distractions. Neither do we try to discern ‘growth’ from ‘value;’ to us these distinctions are noise confusing the signal of true investment management: that is, finding and investing in the top companies providing mandatory products and services that it will be tough for us to do without. What matters is identifying companies and stocks that provide the leadership we need to get Earth’s big equations to balance: these companies may be of any size, from any sectors, and based wherever we find them.
Earth’s economies may stagnate or grow; either way, we believe things like renewable energy, clean transportation, sustainable infrastructure and water resources must grow in value. Over time, the value of stocks in our models will not be dependent on Wall Street gamesmanship, but on simple necessity.
As awareness of the magnitude of our growing resource-climate-security problems advances, so will the valuations of our portfolio companies.
Meanwhile, in 2011, investment returns for the Green Alpha Next Economy Index (GANEX) and the Sierra Club Green Alpha Portfolio (SCGA) were, after two benchmark beating years in 2009-2010, disappointing. Most of the losses in 2011 occurred in Q2 and Q3, with Q1 being relatively positive and October being exceptionally good. However, Q2 and Q3 were so bad that total year losses were large. For our 2011 portfolio factsheets, click here for GANEX and here for SCGA.
Markets in general fared poorly over this period, and the macroeconomic backdrop for this is well known: the European banking and sovereign debt crises, the U.S. debt ceiling “crisis” and legislative gridlock including the failure of the “Supercommittee” to make meaningful changes and the increasingly undue influence of special interest money in politics.
Green economy investments, however, fared particularly poorly. Again, we do think there are many reasons for long term optimism (for exhaustive detail on these, check out our blog), but it seems likely that a still weak global economy will create problems for the renewable energy industry, significantly because government subsidy support is under pressure as budgets face austerity, and subsequent reluctance from banks to provide credit to these industries.
With solar in particular, much has been made of rapidly declining prices and narrowing profit margins, as supply has exceeded demand in the recent short term. We believe rapid uptake of solar in the coming one to two years will not only consume this supply overhang but will soon exceed it. That said, it seems premature to express conviction that solar shares (appx. 13% of the GANEX is exposed to the solar industry value chain) are at a bottom. (See this blog entry for more). It’s not just solar that’s getting beat up this year in the renewable space; wind power, wave power, and energy storage have been hammered down as well.
The comparables for earnings and revenue growth get particularly tough for Q1 & Q2 2012 vs. same period 2011. This is not just in the Green Alpha space but at the corporate level in general. Now, the large reductions in revenue and earnings growth by analysts are sending the year over year growth rates into the negative zone – that will normally bring down valuations very quickly, as we have seen.
Another reason we may not yet be at the bottom, apart from the true structural issues mentioned, is that there is a concerted disinformation campaign underway to discredit not only renewable energy but even the fact of global warming which provides one major incentive to adopt renewables in the first place. Joe Romm at Climate Progress does a great job of covering this (see here), and he frequently notes that the Solyndra “witch hunt” is now a primary weapon of disinformation.
In the short to medium term, this fabricated headwind will no doubt adversely affect our returns. However, the fact that disinformation by definition obscures the reality of renewables’ cost competitiveness and effectiveness means that it is causing a classic example of inefficient markets. That is, artificially cheap buying opportunities for those with the tolerance for volatility. Many of the reasons for the very low valuations are not structural or fundamental, but are made up by people whose interests are in the fossil fuels status quo. Ultimately, this cannot stand.
If there are reasons to remain optimistic in the short term, they center around these low valuations. Virtually all valuation measures, price to book, price to sales, price to earnings, price to cash on hand, enterprise value to EBITDA, discounted cash flow and others are at all time lows that don’t represent the true prospects of the underlying firms. Again, disinformation means inefficient markets.
Also in 2011 we were pleased to unveil our Next Economy Sector Classification (NESC) scheme to help investors see our portfolios’ diversification. We believe NESC represents a far better view of portfolio allocations and diversification than do the old GICS and ICB industry systems (which, for example, place solar energy into “Oil and Gas”). You can see the NESC in practice on our factsheet, here.
From the NESC standpoint, the top performing Industry & Sector in the GANEX Portfolio was the Products (Industry): Consumer Goods (Sector), with Portfolio exposure of approximately 18%. Holdings in this sector include Kandi Technologies Corp. (KNDI, 51.02% in 2011) Green Mountain Coffee Roasters (GMCR 36.49%), Hain Celestial Foods (HAIN 24.02%) and Tesla Motors (TSLA 7.25%).
On an absolute return basis, of the 78 securities we have positions in across portfolios, the best performers for 2011 are: Telvent (TLVT, 53.63%), Kandi Technologies Corp. (KNDI, 51.02%) and Whole Foods Markets (WFM, 38.47%).
The companies that hindered portfolio performance the most in 2011 were: First Solar, Inc. (FSLR -74.06% in 2011), Cree, Inc. (CREE -66.55%) and Vestas Wind Systems (VWDRY (ADR) -66.57%). Again, with these, and with particular respect to solar companies, we think these valuations are irrationally low and solar module sales in the next few years will bear that out. Given the price pullback in 2011, many of our holdings have become incredible values.
Obviously, we’re disappointed with the recent short term performance. But we continue to believe and hold to the macroeconomic premise that the best companies providing the best solutions to the problems of resource constraints, carbon constraints, warming, and an increasingly populous world will grow more rapidly than will legacy economy companies, and therefore we expect to provide better portfolio returns over the long term. The basis of our next economy companies doing well is fundamentally a belief that society is ultimately rational and will do what it must to preserve itself, in spite of some contemporary evidence to the contrary.
Green economy companies thriving or failing is not just a matter of portfolio returns: it is an existential binary for civilization.
Thanks for your continued support of Green Alpha Advisors and investing in the Next Economy.
Garvin Jabusch, Co-Founder & CIO
Jeremy Deems, Co-Founder, CFO & COO
Garvin Jabusch is cofounder and chief investment officer of Green Alpha ® Advisors, and is co-manager of the Green Alpha ® Next Economy Index, or GANEX and the Sierra Club Green Alpha Portfolio. He also authors the blog “Green Alpha’s Next Economy.”