July 5, 2019
You may recall my 2018 second quarter newsletter in which I discussed the Value of Virtue, describing GCM’s commitment to seeking sustainable companies as well as the rationale for looking at financial interest in a company for a minimum of 3-10 years. I further shared my philosophy regarding environmental, social, and governance (ESG). As clients, you may be wondering if taking this approach may result in missed investments or money-making opportunities, so it seemed like a topic worth revisiting in this quarter’s newsletter.
Climate change and other ESG issues are neither political nor partisan topics and not limited to niche investors. Measuring and analyzing ESG information is becoming an important activity for any investor who seeks to optimize risk and return. In fact, a growing body of evidence indicates that companies with strong ESG policies produce better financial results. Academic research analyzing 2,000 U.S. companies from 1993 to 2014 shows higher profit margins and superior risk-adjusted returns for those that made significant ESG investments as compared to industry peers that made smaller investments. An analysis done by the California Pension Fund (CalPERS) of the stock performance of 188 companies on its ESG engagement “Focus List” found that those companies performed significantly better than their peers—15% above the Russell 1000 Index—over a 14-year period. The lesson should be clear: investor influence strategies on material ESG issues are positively correlated with long-term financial returns.
By proactively addressing ESG issues, we can help ensure that companies are more resilient, prepared and profitable in navigating fast-changing global risks. And being prepared is a win-win for everyone, whether we’re talking about investors, the economy, or the public. This leads me to our largest ESG/climate change investment – ENPHASE.
GCM has had the best first half in its 25-year history. Enphase (ENPH) has led the way, up approximately 4X this year and 8+X since first putting it into client accounts. It may seem prudent to sell some shares, but I believe that would be a premature decision in this case. Please allow me to dedicate the rest of this newsletter to GCM’s largest-ever investment. Since we just celebrated Independence Day, let’s also celebrate the future of energy independence.
There are currently 840 million people around the world living without electricity. By 2030, this figure will rise to 1.2 billion as the global population expands and electricity grids remain the same. However, World Bank reports that this could change by marrying solar with microgrids. A microgrid is defined as “A set of electricity generators and possibly energy storage systems interconnected to a distribution network that supplies electricity to a localized group of customers. They involve small-scale electricity generation which serves a limited number of consumers via a distribution grid that can operate in isolation from national electricity transmission networks”.
At the moment, some 47 million people in remote locations (most of them in Asia) have been connected to microgrids. There are 19,000 of these microgrids which largely run on polluting diesel or hydropower. In light of the global sustainability drive, World Bank reports that solar, rather than diesel, could be the best option. The cost of solar panels is falling as well as the cost of the batteries that will provide the necessary storage capacity for such installations. According to World Bank, the world will need 210,000 of these microgrids, bringing the total investment at some US$220 billion. Further, it states that microgrids are the most viable option for remote areas where expanding the main grid would be too expensive for both utilities and customers.
So, just imagine: a clean energy system that can maximize production and efficiency with or without a public utilities grid, along with the assurance of a resilient system that stays up and running even in the face of blackouts or natural disasters. I believe that Enphase’s Ensemble is the future of energy, a system that will make it possible for anyone, anywhere, to harness clean energy. It’s the technology that connects every piece of the energy system — from solar panels to storage solution to monitoring software—thereby creating a truly smart home that manages and optimizes its energy production and consumption. Ensemble is, in essence, a new technology solution that allows one to be both consumer and decision-maker in the energy marketplace.
As a homeowner, you get to decide when and how your home is powered by the grid or by the sun. And you get to decide whether to keep the extra energy your home produces or sell it back to the grid. Best of all: it’s a system that learns as it goes, makes decisions in an instant and is constantly optimizing itself to provide the best economical and sustainable choice every minute of every day.
Making Homes Smarter
Ensemble isn’t just going to be a key player in the energy marketplace; we think it’s going to change the energy marketplace altogether. And it’s not just for places where there are stable utilities grids like in the U.S.; it’s also allowing developing communities across the globe to build their own microgrids. With Ensemble, the power will be in our hands.
Currently, the threat of your solar system going down is real. It’s been this way for as long as solar has been around. Most of the time, it’s an inconvenience just like every other building without a backup battery or generator experiences. But sometimes it’s more than inconvenient. As recent natural disasters in Puerto Rico and Houston have shown us, losing power isn’t always simply an inconvenience — it can be a matter of life and death. As the public watched Puerto Rico suffer through long blackouts that lasted weeks or even months, people everywhere began to realize that traditional grid-tied solar systems were just as dark as everything else.
Enphase sees the catastrophic results of blackouts after storms or other events, and they are not settling for the same old story. That’s why Ensemble is developed to be 100% grid agnostic. That means when the grid is up, it can communicate and function just like a grid-tied system, and enjoy the benefits that comes with having the grid’s support. It also means that if the grid goes down, your Ensemble-empowered system goes fully independent — it, essentially, becomes a solar island. It doesn’t need the grid to operate, and at the same time, ensures the system produces the power you need while maintaining safety and security for your building and the utility lines connected to it.
The grid-agnostic solution Ensemble enables means that any home or building has the opportunity to stay up when the grid goes down. This is significant for rural areas or developing countries where the grid can be inefficient. Working in harmony with Enphase IQ7 or the upcoming IQ8 system components (coming in 2020), Ensemble will power a system without a grid whenever sunshine is available. And if you were to pair it with Storage —backup battery — you’ll have a fully functioning, completely self-contained grid.
Throughout the last decade, there has been a staggering drop in the price of solar and wind power and of the lithium-ion batteries used to store energy. This has led to rapid expansion of these technologies, even though they are still used much less than fossil fuels. In 2017, sun and wind produced just 6 percent of the world’s electric supply, but they made up 45 percent of the growth in supply as the cost of sun and wind power fell by about 20 percent with each doubling of capacity. In the next few years, they will represent all the growth. We will then reach peak use of fossil fuels, not because we’re running out of them but because renewables will have become so cheap that anyone needing a new energy supply will likely turn to solar or wind power.
Probably sometime within the next ten years, the demand for fossil fuels will stop growing. The turning point in such transitions “is typically the moment when the impact is felt in financial markets”—when stock prices tumble and never recover. Who is going to invest in an industry that is clearly destined to shrink? Though we’ll still be using lots of oil, its price should fall if it has to compete with the price of sunshine. Hence the huge investments in pipelines and tankers and undersea exploration will be increasingly unrecoverable. Precisely how long it will take is impossible to predict, but the outcome seems clear.
Long-term investors focus on big secular waves while traders look at cyclical, even seasonal, trends. Investors look out as far as their stomachs can handle and figure out what could go right. But you’d better be right if you intend to take a long view.
Like Marty McFly, investors must be time travelers—and cynical ones.
Enjoy your summer!