The solar market got a huge boost from the Federal Reserve today after the central bank decided to keep short-term interest rates flat and gave a very bullish outlook for 2024.
Solar energy stocks have been among the fastest to react because lower rates will have a direct impact on volume and margins in 2024. At the end of the trading day, shares of SunPower (SPWR +0.00%) were up 17.8%, Sunrun (RUN 3.73%) was up 19.7%, and Sunnova Energy (NOVA +0.00%) jumped 15.4%. Suppliers to the solar market were also up with Enphase Energy (ENPH 2.19%) rising 7.8% and SolarEdge Technologies (SEDG 5.28%) climbing 8.4%.
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Interest rates drive the solar industry
The harsh reality is that solar installations are driven by interest rates, especially in the rooftop market. Customers often put $0 down and sign a 20- to 30-year agreement to buy solar electricity from an installer, known as a purchase agreement. The installer then sells off any tax benefits or upfront subsidies and needs to finance those long-term payments just like a mortgage or bond.
When interest rates rise, the financing gets more expensive and margins for the installers go down unless they can raise prices on customers. This has been the pressure on solar energy stocks for all of 2023.
At least for today, that pressure is reversing. The 10-year government bond rate fell 18 basis points in the U.S. to 4.02%, backed by bullish Fed officials. Most officials think there will be three or more rate cuts in 2024 and rates will end the year at 4.6%, with rates falling to 3.6% by the end of 2025.
If that happens, it'll be a boon for the solar industry and the margins for installers.
Cautious optimism in solar energy
This reduction in interest rates could help residential solar installers generate slightly higher margins for installations late this year and into 2024. But I would watch the potential tailwinds from expected lower component prices and higher utility rates, which is what solar installation costs are compared to. These should also help margins, so lower rates are icing on the cake.
It may take some time for the impact of all of these changes to be felt. We are in the winter months in North America and Europe, and solar installations are slowing down. Spring and summer are when most of the year's bookings take place, and there's a lag of a few months between signing a project and building it, so it's possible we won't see a significant improvement for a few quarters.
That said, it seems like the interest rate headwinds that many investors expected for 2024 are turning into tailwinds. That should be good for solar energy stocks, but today's move is a little quick and may not stick for an industry that's struggled all year. I'm still bullish on solar energy stocks but think there are multiple quarters to shake out what the long-term trajectory will look like, and if rates turn out to be higher next year, the pop in stocks could quickly reverse.
