Using ETFs to Invest in Alternative Energy

For investors looking for diversified exposure to Alternative Energy, Exchange Traded Funds [ETFs] are the best option. I have not found any statistical evidence that actively managed alternative energy mutual funds can beat the market (and hence justify their higher fees,) so lower expense ratios make ETFs compelling. Since last year, the wide variety of Alternative Energy ETFs also makes it possible to even speculate on subsectors. People who expect Solar, Wind, or even Carbon Trading to do better than Alternative Energy stocks as a whole now have an easy way to place their bets.

Investing in Green Energy as a Whole

For investors who want exposure to Alternative Energy, but don't have an opinion about particular stocks or subsectors, there are two factors to differentiate between ETFs:

1. Domestic [U.S.] or Global?
2. Expense ratios.

All else being equal, a lower expense ratio is always better. Expenses, even small ones, can greatly reduce the overall return of your investment over time. The choice of a domestic ETF vs. a global one is a bit more complex. With the new Obama administration firmly behind the New Energy economy, it's easy to believe that U.S. alternative energy companies may do better in the near future than global ones, which would push you towards domestic ETFs.

However, global companies tend to be larger and more established, and are also likely to be a better diversifier for most U.S. investors who already own mostly U.S. stocks, making Global ETFs a better choice for a more conservative investor.

Domestic ETFs
Name	Ticker	Expense Ratio
First Trust NASDAQ Clean Edge US Liquid	QCLN	0.60%
PowerShares Clean Energy	PBW	0.60%

Global ETFs
Name	Ticker	Expense Ratio
iShares S&P Global Clean Energy Index ETF	ICLN	0.48%
PowerShares Global Clean Energy Portfolio	PBD	0.75%
Van Eck Global Alternative Energy Fund	GEX	0.65%

Given that ICLN brings the advantages of greater global diversification, and a lower expense ratio, ICLN is now my top choice for a single investment in Alternative Energy. (I previously preferred GEX, because ICLN was not available before June 2007, and I was not aware of it for some time. I suspect that part of the lower expense ratio arises from a smaller marketing budget. If there are any Alternative Energy ETFs I'm currently missing, please let me know in the comments.)

Solar, Wind, and Carbon ETFs: Speculating on Sectors

I personally believe that Obama's push to double U.S. renewable energy in three years is likely to help Wind and Geothermal stocks more than other renewable energy sectors. While there is no Geothermal ETF, the sector does have a dominant company, Ormat (NYSE:ORA). Without the ETFs, however, it would not be as easy to speculate on Wind, because not only is there no dominant company, many of the leaders do not trade in North America.

Similarly, while there are many North American listed Solar companies, several of the leaders do not trade here. Finally, there are two Carbon ETFs (one's technically an "Exchange Traded Note" but this is likely to make little difference to most investors), which track the price of CO₂ credits in different markets.

Wind ETFs
Name	Ticker	Expense Ratio
First Trust Global Wind Energy Index	FAN	0.60%
PowerShares Global Wind Energy	PWND	0.75%

Solar ETFs
Name	Ticker	Expense Ratio
Claymore/Mac Global Solar Index ETF	TAN	0.65%
Market Vectors/Van Eck Global Solar Energy ETF	KWT	0.65%

Carbon ETFs
Name	Ticker	Expense Ratio
AirShares EU Carbon Allowances Fund	ASO	0.85%
iPath Global Carbon ETN	GRN	0.75%

If you are trying to decide between each type, the expense ratio is unlikely to be important to you for short term speculation. Rather you will want to find the one that will benefit most if your investment thesis is correct. For that, take a look at these comparisons of the Solar ETFs, Wind ETFs, and Carbon ETFs.

DISCLOSURE: Tom Konrad has written puts on PBW, and FAN, and owns ORA.

Comments

[donzelion:]

In general, I'd expect alternative energy ETFs to outperform alternative energy mutual funds - as you say, lower fees are better. However, I don't expect great performance from alt-energy ETFs either, because:
(1) Alt-energy specialty funds have relatively high fees among ETFs
(2) Properly weighing the "green-ness" of each equity requires subjective judgments (e.g., GE and BP make more "alt-energy" products than a substantial number of green energy equities)
(3) Over time, alt-energy companies with products offering long-term growth opportunities will merge, buy, or be bought out by mainstream companies (making problem #2 worse over time)
(4) "Faux Green Companies" can game the system (get yourself classified as "green," and who will question it, or audit the classification before adding someone to the index? who becomes the gatekeeper?)

Hence, I prefer a "core and explore" approach: 90% of my investments go into traditional instruments (cash, bonds, and basic, low low fee ETFs), and the remainder goes into long-term investments in promising companies.

Jan 21 03:02 AM

[bbowen7:]

An excellent article, particularly if you follow the clicks through to the discussion of wind, solar, and carbon ETFs.

Jan 21 01:32 PM

[stevelafrance:]

Nice article and I appreciate the review of these alternative ETFs. I wouldn't be too quick to dismiss the risks of ETNs, though. With this investment you expose yourself to the claims paying ability of the issuer (for GRN, it's Barclays). As of today, Barclays is rated AA credit and stable but that can change in a blink and that is not something most investors should ignore. The prosepctus for GRN provides all the details.

Jan 21 02:50 PM

[pocoynada:]

There is another ETF, as they say in their website: "Cleantech Index (CTIUS) was introduced on the American Stock Exchange in February, 2006 and represented the first index of its kind". I'd be grateful to read your comments on it.

Jan 26 02:53 PM