The current collapse in oil prices has to be worrisome for those of us hoping to see more capital come back into the clean energy sector.
To be clear, many clean energy technologies aren't really competing directly against low-cost oil, at least in the world's biggest economies. The vast majority of oil used in the U.S. goes to transportation, dwarfing the very small amount that goes to electricity generation, for example. Low-cost natural gas is a much more direct "competitor" tosolar energy efficiency, batteries, etc., and that's been in place in the market for the past few years already, hindering but certainly not stopping growth. Low-cost oil, if here to stay for a while, would suggest a need to shift emphasis within the sector, not a need to shift away from clean energy altogether.
But in my experience, limited partners and other generalist investors don't seem to pay much attention to that nuance. "Energy prices are falling" tends to be the headline that leads to dampened investor enthusiasm for clean energy solutions overall. For proof, look no further than the fact that solar company share prices are surprisingly closely correlated with oil prices. This has some logic when it comes to solar panel manufacturers that may be looking for growth in emerging economy markets where solar is indeed cannibalizing oil as an electricity generation fuel, but that would seem to be on the margin. And it certainly shouldn't apply to downstream solar plays like SolarCity, which have almost zero competitiveness with oil. If anything, all the increased disposable income that American homeowners are now enjoying thanks to lower gasoline prices could end up boosting demand for solar on rooftops.
At least, it should -- if logic applies.
But too often, logic doesn't apply to how alternative energy solutions are viewed as "expensive" in relation to oil prices. Especially when the oil price change is very rapid, leading to lots of uncertainty, like right now.
So the upshot is, collapsing oil prices is a bad headline to see if you're hoping to get more limited partners to put capital into clean energy private equity. From what I hear from people deeply experienced in the oil market, there's some expectation that prices will stabilize before too long, but realistically, no one knows -- that's the nature of such a volatile commodity market. So this probably pushes back the timeframe a bit for LPs getting back into what is actually an obvious market opportunity right now.
An obvious market opportunity? Yes, because the growth in several key clean energy markets is quite evident, and the potential is even larger. Because several key tipping points have been achieved over the past couple of years, and the educated projection is that several more will be breached in the near future.
Change always seems to take much longer than it should -- and then when it happens, it happens much faster than you expect. This can often be attributed to non-linear effects. Thanks to experience curves and more general market transparency, analysts have gotten pretty good at projecting cost declines for technologies. This often leads to market growth forecasts that are assumed to be somewhat linear in their relationship to cost/performance, or at least pretty conservative (see Exhibit A: The Energy Information Administration). But in reality, of course, we end up seeing a key threshold (or several) being breached, and then there's a major inflection in demand.
Rooftop solar started taking off in various states within the U.S. market as 1) cost declines of 40 percent since Q1 2011 moved subsidized system cost closer to grid parity; 2) solar on homes became a more common sight, leading to peer influence; and 3) financing and development platforms emerged which made it much easier for anyone to make the decision to adopt.
We knew the costs were going to come down like this, but still no one (except Greenpeace!) predicted the rapid pace of adoption that would result from key thresholds being reached in these three factors. Now that we better understand these dynamics, analysts are much more bullish. In their October 2014 Initiating Report of Vivint Solar, Credit Suisse projected (sorry, no link) the U.S. residential solar market to grow at a 36 percent CAGR through 2020. The report includes some nifty analysis showing just how much the potential solar market grows as much as 3X as pricing falls just a cent or two per kilowatt-hour from current levels -- an instance of nonlinearity in action. Canaccord Genuity this week came out with a research report (again, no link; ask them directly) that was a bit less bullish (thanks to anticipation of the ITC going away in 2017), but still sees the market as growing rapidly even as subsidies are pulled back.
The same tipping-point story seems to be happening in LED lighting. Even just a couple of years ago, analysts were still waiting for a big demand inflection point, guessing that it would come as residential light bulb prices dropped into the single digits (I suppose as a proxy for the broader market as well).
Well, we're here.
Prices continue to fall rapidly, and you can buy that under-$10 bulb at Home Depot. As importantly, the quality has come up -- just two years ago, I felt obligated to do a bunch of testing of available LED bulbs for the home, because so many were of pretty low quality. Now not only are the bulbs pretty much just like an incandescent in terms of performance, but the price of the few bulbs I liked has also fallen by something like two-thirds. My old bulb reviews feel like ancient history, only two years later. The same effect is happening in lighting for commercial and industrial buildings as well, just not as obviously, and as a result, Credit Suisse is now projecting that more than half of all lights sold in 2016 will be LEDs, up from 31 percent this year. It's another amazing market growth story.
We're on the cusp of seeing similarly big cost drops in energy storage. Based on these trends, what can we expect to happen as a result? And then what would be the resulting impact on utilities? On solar markets? On transportation? These are questions to examine in another column. But you have to feel excited about the prospects.
The point is, while collapsing oil prices will result in many generalist investors remaining on the sidelines, key tipping points are being breached across multiple clean energy technology opportunities. Cost declines march forward, new channels and financing platforms are being launched, and market acceptance via peer influence is overcoming reticence around what used to be curiosities. If you're a fan of investing into high-growth markets, it's a great time to be jumping in. Because not even today's oil market turmoil will be able to hold back these market inflection points for long.