The energy industry has gone through an incredible change over the past decade. Coal has faded from the energy picture, oil and gas production has proven to be a lot less lucrative than hoped, and even big oil is struggling with lower profits and falling stock prices.
Meanwhile, renewable energy continues to grow as wind and solar energy become a larger part of the energy mix. The U.S. Energy Information Administration expects three-quarters of new electricity generation in the U.S. in 2020 to be wind or solar, so this is no longer a niche business. Given these macro trends, I think investors buying energy stocks today should put the industry's tailwinds at their back and pick some of the best renewable energy stocks on the market. My picks for this month are Brookfield Renewable Partners (NYSE:BEP), Vivint Solar (NYSE:VSLR), and Hannon Armstrong (NYSE:HASI).
Brookfield Renewable Partners
One of the biggest keys to building renewable energy projects is financing. Wind and solar manufacturers don't have the money to build and own assets long term, which is why yieldcos like Brookfield Renewable Partners exist to finance projects. The company owns 19,300 megawatts (MW) of renewable energy assets that generate revenue over the course of decades, usually on long-term contracts with utilities. That revenue is then used to pay dividends; Brookfield yields 4% today.
Brookfield Renewable Partners is a little unique in the yieldco space because it aims to grow primarily organically, rather than through new share and debt issuances. Management has set a target of 5% to 9% organic dividend growth and, when you throw in some price appreciation in shares, they hope investors can make 12% to 15% annually, a great return in today's energy industry.
Another way to finance clean energy solutions is by owning land or financing efficiency improvements in government buildings. That's what Hannon Armstrong does, and it's been very effective in using the strategy to grow revenue and earnings long term.
What I like about Hannon Armstrong's strategy is that it can adapt to opportunities as they arise. It owns some preferred stakes in wind farms, which generates a higher return than debt alone but leads to less volatility than a traditional equity stake in a project. Buying the land under solar projects or financing residential solar projects through debt are ways to generate a relatively low-risk return on assets. And then there are efficiency improvements that it finances, generating a very reliable return by providing cost savings to highly rated (often government) customers. And with a 4.7% dividend yield that's growing regularly, this is another great, albeit unconventional, energy stock.
The second-biggest residential solar installer in the U.S. is Vivint Solar. The company doesn't just sell and install solar panels; it finances the solar projects as well. It's that financing where the company's real value comes from in the form of what it calls retained value, or the present value of all future expected cash flows from tax benefits and customer payments for solar electricity.
Today, Vivint Solar estimates its net retained value after debt financing to be $1.25 billion, or $10 per share. That's near where shares trade today, so any growth the company has in the future should be pure upside.
Vivint Solar has an advantage over the competition via its simple business model that will adapt well as energy as a service becomes more viable nationwide. Energy services will include solar installation, energy storage, and even smart-home controls. Given the company's large base of installations and hardware-agnostic design, it's likely to benefit no matter where the industry goes.
Follow the energy trends
I think these three stocks are well positioned to benefit from the broad energy trends taking place today. The first is growth in renewable energy, which is clearly where the future of energy is headed.
The second and less obvious benefit is historically low interest rates that all of these companies can benefit from. Existing projects can be financed at lower rates than previously expected, and future installations should benefit as well.
These may not be high-flying stocks in the market's eyes, but they're in a good space for steady returns long term. And a steady operator is what energy investors should be looking for given the rapid changes we've seen in the market over the last decade.