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Direct Investments in Renewable Energy Increasingly Attractive

Words by Andrew Burger
Investment & Markets

Institutional investors, such as pension funds and insurance companies, are increasingly investing directly in wind, solar and other renewable energy projects, providing much needed capital to companies in the fast-growing clean energy sector even as banks, still suffering from accumulated bad loans and high debt levels, have tightened lending standards and struggle to raise capital to shore up their finances.

This is particularly true in Europe, where banks find themselves caught in a web of bad debts accumulated from prior their own housing and property lending and investments and subsequent government efforts to bail them out with sovereign debt, which has led them to purchase large amounts of euro zone treasury securities.

Multinational insurer Munich Re's bought three UK wind farms with a combined 102-MW capacity, boosting the total amount it's invested in renewable energy projects to more than €600 million ($737 million), Bloomberg News reported on Aug. 12. Looking to reduce its reliance on bank loans, Swedish renewable energy project developer Arise Windpower AB is turning to pension funds and other institutional investors to help finance its new projects.

Providing much needed capital

The European Central Bank (ECB), as well as central banks of major economies around the world, continue to hold benchmark interest rate levels at record lows in an effort to avoid another painful recession and the threat of deflation. At the same time, European Union (EU) renewable energy markets need lots of capital in order to finance the transition from fossil fuels and meet EU renewable energy goals, which call for renewable energy to supply 20% of total EU energy by 2020.

Pension funds have traditionally invested insurance premiums in government bonds, but the combination of the aforementioned factors is leading them to take direct equity stakes in wind power projects, Reuters reported on Aug. 14. PensionDanmark and PKA, as well as Dutch pension group PGGM and industrial companies, such as the owners of Danish toymaker Lego and Japanese trading companies, such as Marubeni, are some of the investors in renewable energy projects being developed by Denmark's state-owned DONG Energy.

"I think this will...develop into a standard investment case for many pension funds because the alternative of investing in government bonds provides such bad returns that you are obliged to identify alternative investments," Reuters quoted Torben Moger, managing director of PensionDanmark, which has 618,000 members and 125 billion crowns ($21 billion) in assets under management.

PensionDanmark's invested some 4.5 Danish crowns in DONG Energy wind power projects, and it plans to invest more as it's aiming to allocate 10% of its investment capital in energy and infrastructure from about 6% at present. "We have quite an expansive strategy in this area," Pedersen told Reuters. "In five years we will have 180 billion under management. So our total budget for these kind of investments will be 10-15 billion crowns over the next 10 years."

Renewable energy projects and institutional investors: A match made in heaven?

Looking to balance their liabilities and assets, pension funds are increasingly viewing wind, solar and other renewable energy projects as viable long-term investments. Lack of familiarity and regulatory risk have by and large kept pension funds, insurers and other institutional investors from investing in renewable energy projects, however. Less than 1% of pension funds worldwide were invested in infrastructure projects, according to an OECD estimate cited by Reuters in its report.

That's been changing, however. Wind, solar and other renewable energy projects are increasingly seen as secure investments offering steady, reliable cash flows over long-term horizons, and that makes them ideal for institutional investors. Pension funds and insurers are increasingly seeing them as a better option than investing in volatile bond and equity markets, Reuters reported.

For example, Reuters notes that German insurance group Allianz has invested more than €1.3 billion ($1.59 billion) in renewable energy since 2005, most of it in German and French wind power farms. Investment returns on wind and solar projects are now around 7%, Allianz Specialized Investment CEO David Jones told Reuters. That's a lot higher than that of many other asset classes. Making renewable energy investments more attractive, their returns aren't positively correlated from financial markets' returns, which makes them especially attractive in terms of portfolio diversification.

Added PensionDanmark's Pedersen, "We expect a return with a spread of between 300 and 500 basis points (3%-5%) above a government bond, but with a risk profile very much less risky than listed equities. So the risk/return ratio is very attractive."

Stepping into breach

Dutch pension fund group PGGM began investing directly in renewable energy project around two years ago, Reuters related. It's taken equity stakes in DONG's Walney wind farm in the UK and the largest wind power project in Latin America in the Mexican state of Oaxaca, which is being developed by Marena Renovables, a limited liability company formed by an investor group that includes Australia's Macquarie Bank.

PGGM's allocated 15%-20% of its infrastructure portfolio capital in renewable energy. "If you have a good partner, then the risk for joining in the development phase can be acceptable, and you get a premium for going in earlier," Henk Huizing, PGGM's head of infrastructure investment told Reuters.

Munich Re's bought the Tir Mostyn wind power farm in Wales, the Scout Moor wind farm near Manchester and the Bagmoor wind power farm in Lincolnshire from HgCapital through its MEAG Munich Ergo AssetManagement GmbH unit, the world’s biggest reinsurer, Bloomberg reported. Terms of the transactions weren't disclosed. The German insurance group, one of the world's largest, has allocated €2.5 billion ($3.25 billion) for renewable energy investments.

Looking to raise capital and shore up its own finances while at the same time aiming to finance a near five-fold expansion in its wind turbines by 2014-- from 64 to 300--, Arise Windpower will be invited to take direct equity stakes in its wind power farms, company CEO Peter Nygren told Bloomberg Businessweek in an interview. “We probably will sell off part of our operational wind farms,” Nygren was quoted as saying. “The profit and cash released can be used in new wind farms.”

Sweden's government has set a goal of renewable energy sources meeting 49% of its power needs by 2020. Arise has typically put up 30% of the capital needed to finance renewable energy projects, relying on bank loans to finance the remainder. That's pretty much the mix of capital typical for renewable energy project developers generally speaking.