Wall Street's Irrational, Dangerous Hatred of Solar Stocks

For most of 2011, the stocks of solar power companies of all kinds, from providers of raw polysilicon to developers of finished utility-scale plants, have been taking a beating on world and U.S. stock markets, partly because solar has been the industry most singled out for attack by bearish short sellers. I can't describe this phenomenon any better than did Roberto Pedone in a recent column for thestreet.com:

Besides the banking sector post-2008 financial crisis, I can't think of a group that's as hated and despised as solar stocks. … For whatever reason, this entire complex has become a favorite target of short-sellers. There are so many names in the solar sector that are heavily shorted that it's hard to find a name the bears aren't leaning all over. One famous and successful short-seller, Jim Chanos, has even made it publicly clear that he thinks the wind and solar stocks are a bunch of "hot air." 

"For whatever reason" indeed. Solar is hated in spite of being the fastest-growing energy sector in the U.S. (67% 2010 growth; 66% growth just in the first quarter of 2011) and in the world (70% 2010 growth), and also even though its shares trade at very low valuations already. Take, for example, Green Alpha Advisors holding and China-based solar company LDK Solar (NYSE: LDK  ) . The company's shares have fallen from $14.49 per share in February to $6.94 as of this writing. I can find no good fundamental reason for the decline: LDK's latest quarterly earnings came in at $0.95 per share where consensus analyst expectations were $0.86; the company has year-on-year sales growth of 202%, a price-to-earnings ratio of only 2.22, plenty of cash on the balance sheet, and a price-to-book ratio of just 0.91. That's right: Even if the company were closed and its assets liquidated, the cash generated at the yard sale would be greater than the current market cap, though the earnings should have value.

LDK is the very definition of a "value" stock. Or, inversely, shorting any company this cheap, that's this fundamentally solid, and that's growing this fast is the very definition of "irrational." LDK happens to be one of our favorites, but it's easy to find similar valuation stories throughout the industry today. This trend would be odd enough on its own, but, simultaneously, other events in the story of global energy are unfolding.

While solar companies are being beaten up, the fossil-fuels side of the energy supply is having a more fundamental, structural problem: Oil demand has run ahead of our apparent capacity for production. Total world oil reserves have declined significantly over the past two years (an exception being the U.S. strategic reserve, but that, too, may soon be tapped), which can only mean that the world is using oil faster than it's being pumped.

It's difficult to overstate how economically dangerous this is, since oil-price spikes have preceded all recessions since 1970. Environment aside, this is why we need to bring more renewables online, to lessen our ridiculous economic vulnerability to oil prices. Referring to a chart on his website, economist Gregor Macdonald writes:

From the latest IEA Paris Oil Market Report, you can see that starting in mid-year, total OECD inventories started a new decline. Moreover, the histograms … also show the difference to the five year average, which also illustrates the global stocks drawdown. This coincided by the way with a resurgent, mid-year advance in the price of oil from a low of $69 to $92 by [2010] year end.

Macdonald concludes, "Unable to meaningfully increase global oil production to meet demand, the world ate through inventories. You have been warned."

Again, the drawdown in inventories and evidence of peak oil is alarming because spikes in oil prices crush economies. We've written about this many times, but a chart compiled by Stuart Staniford says it all "[S]since 1970, every single recession has been preceded by a runup in energy prices," he notes.

Oil is expensive to the point that it is threatening the economic recovery, and because demand exceeds supply, its price will most likely continue to increase, except, maybe, during oil-caused recessions. 

Meanwhile, on the electricity side, solar is quietly becoming competitive with the average grid price (especially in sunnier climates) and is rapidly getting cheaper still. "Price per watt of solar modules (not counting installation) [have] drop[ed] from $22 … in 1980 down to under $3 today," according to Ramez Naam, in a great piece for Scientific American. And, as this trend continues, "in 2030, solar electricity is likely to cost half what coal electricity does today."

I believe that solar's scale is increasing rapidly enough that Naam's 2030 prediction will occur much sooner, by 2020 or so (the Institute of Electrical and Electronics Engineers says "within 10 years"), but whenever it happens, as solar comes into its full potential, it will become so cheap and plentiful that any type of fossil fuel will seem foolishly expensive by comparison, at least where electricity is the energy of choice.

But behind these macroeconomic realities, Wall Street's consensus opinion of solar stocks looms large. And so far this year, the consensus has been extremely negative. Does Wall Street to some degree answer to the huge buckets of money represented by Big Oil? Yes. Is there therefore some effort under way to delay the inevitable solar-powered future? Possibly, but suffice it to say that Wall Street at least has enabled a culture that, against all economic and climactic evidence, loves fossil fuels and still views renewables as "alternative." (Anecdotal but interesting on this point, on May 4, 2011, CNBC reported on-air that Arizona's First Solar (Nasdaq: FSLR  ) , a Green Alpha holding, missed its first-quarter earnings, when in fact the company's earnings had beaten expectations by 15%. The stock plunged 10%.

Meanwhile, other folks are beginning to embrace the Next Economy. Smart oil money in Saudi Arabia is converting itself to massive amounts of exportable solar. "Converting" as in Saudi Arabia is hoping to develop the same quantity of solar-electricity exports that it now enjoys from oil exports. As I discussed in my previous post, "Saudi Arabia exports about 2.7 billion barrels of oil per year, each containing the equivalent of 1,700 kilowatt hours (kWh) of electricity for a total of [49,500 GWh] per year, or the equal of about one quarter or the world's annual electricity demand." Using a standard PV average of 30 square kilometers-per-gigawatt-hour year, this means the Saudis would need 1.377 million km squared of solar panels to achieve their goal solely with PV. This is well over half the country's total size of 2.218 km squared!

Now, of course, this is an extreme goal that the Saudis are unlikely to reach, and their efforts will no doubt also include concentrated solar thermal, but even a small fraction of this goal would provide every solar manufacturer on Earth with years of order backlog. It's worth noting that the Saudis are probably pursuing this policy to replace lost revenues as they deplete their oil reserves (and they're using foreign petro dollars to do it). 

Elsewhere in the world, China has recently doubled down on its goal of 5 GW of installed solar capacity by 2015 to a new 10 GW goal. In Germany, they're halting their solar-subsidies repeal to meet their plan of replacing nuclear power with renewables. (The end of German/European solar subsidies has been one of the short sellers' chief arguments. Italy has just voted to scrap new nuclear plans as well, so they may also feel the need to keep their solar incentives; more broadly, the twilight of nuclear in general may have arrived.) In Japan, a "proposed feed-in tariff would create guaranteed demand for all of the output from renewable energy projects," and companies are planning projects accordingly.

Adding up the world's PV solar plans in his "Plan B" review, Lester Brown reckons that "cumulative PV installations could reach 1.5 million megawatts (1,500 gigawatts) in 2020" and goes on to say that "[a]lthough this estimate may seem overly ambitious, it could in fact be conservative, because if most of the 1.5 billion people who lack electricity today get it by 2020, it will likely be because they have installed home solar systems." (Brown's estimate could indeed be conservative; he was writing before the Saudis' announcement).

Viewed simply in terms of potential growth as a slice of the world energy market, solar again appears set for massive growth. The Economist reported this week that as of 2010, "non-hydro renewables still check in at only 1.3% of global energy consumption." Since many local, regional, and even a few national governments have set mid-term goals of 20% or more from renewables, it seems likely that solutions such as solar and wind have potential to grow tenfold or more on policy basis alone.

You get the point by now. Aggregate solar-power demand in the global economy is huge and growing. Any way you slice it, the solar industry is currently very undervalued by analysts and traders, even though overdependence on oil is threatening to return us to recession. 

So how do we judge Wall Street's treatment of solar stocks? Irrational? Obviously. Dangerous? Only if you fear for the economy. 

Garvin Jabusch is the cofounder of Green Alpha Advisors, LLC, and manages The Sierra Club Green Alpha Portfolio -- a unique blend of Green Alpha Advisors' Next Economy universe and the Sierra Club's proprietary green-investment guidelines.

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Read/Post Comments (10) | Recommend This Article (11)

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  • Report this Comment On June 19, 2011, at 5:50 PM, EquityBull wrote:

    Great article. I too do not understand completely other then this is a pile on trade by shorts. Once the trade is over these stocks may see multi-bagged run ups in short order

  • Report this Comment On June 19, 2011, at 7:37 PM, Eysteinh wrote:

    Thank you for this insightfull article.

  • Report this Comment On June 19, 2011, at 9:45 PM, dsong wrote:

    This is the best article about solar I have ever seen

    from Motley Fool.

    It is indeed too dangerous to short China solars at

    p/e less than 2. China agency had said the shorts of China solars will be burned shortly even to bankrupt

    Shorts you are warned.

  • Report this Comment On June 20, 2011, at 11:07 AM, JF125780 wrote:

    Garvin, This is a tremendous article and I'm sure the oil companies want to hold back solar as much as possible.

    Keep up the good work, you're doing a great job.

  • Report this Comment On June 20, 2011, at 1:11 PM, kgranno wrote:

    So, is LDK being swarmed by shorts which is dropping the stock to these current levels? They are going to have to cover once this thing gets going again which could make this thing pop!

  • Report this Comment On June 20, 2011, at 2:05 PM, nirosa wrote:

    In effect do not forget how many people are employed in this sector in China: if there is a figure Chinese politicians are paying attention to, this is employment in such a industry. they consider this industry strategic. an announcement from chinese government can really change the scenario. in the meantime it's a scare the investor play.

  • Report this Comment On June 20, 2011, at 2:34 PM, EquityBull wrote:

    After reading this article I decided to see how this stock could trade for just 2 times earnings and under book value.

    My analysis after a short look shows the massive debt on the balance sheet. 3 billion of total debt against 500 mil in cash. Net debt of 2.5B.

    With net income around 500M and assuming a low growth rate that is 5 years to just pay down the debt assuming it was financed at zero percent.

    I think this is why the stock is trading so cheap. Shorts think that the company cannot grow and pay down its debt load.

    It's too complicated for me to go long or short although my gut tells me that this one is probably undervalued by quite a bit (it's 3 bucks under book value here). Just don't know enough about the company, management and all moving parts to sleep well at night long or short.

  • Report this Comment On June 20, 2011, at 4:11 PM, tkthegreek wrote:

    Deuteronomy 31:6 NLT

    So be strong and courageous! Do not be afraid and do not panic before them. For the Lord your God will personally go ahead of you. He will neither fail you nor abandon you.

    Negative, negative, negative, What do we need? Clean energy, what do we have? The sun in abundance? Downside risk, are you crazy, getting up in the morning you could face downside risk but you have to be drunk, blind, deaf, and unable to communicate with even a pen to not put 5% of your portfolio in Solar

  • Report this Comment On June 21, 2011, at 10:15 AM, dkangan wrote:

    But that assumes you can trust any of these numbers. This is China, remember, where exciting looking numbers can fall from trees. At current exchange rates, that is more than 32,000,000,000 yuan in cash. Sitting in a bank.

    Really?

  • Report this Comment On June 21, 2011, at 10:43 PM, nonzerosum wrote:

    Great article. Author should provide examples is that solar is already competitive on the margins, e.g. in big island Hawaii wholesale electricity is around $0.22 per kWh and the Kona side gets 2000 hours of sun per year. If you do the math solar already passed gird parity there. Look at Spain and Israel too.

    @EquityBull: LDK has always operated at negative working capital, so that's why they're cheaper than the other solars. All solars are undervalued so I think the author's basic argument is solid.

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