22 November 2017
Renewable energy is a popular asset class for insurers within the alternatives universe, and the trend is likely to continue based on the industry's growth forecasts. But challenges remain for insurers looking to grow exposure in unfamiliar territory. Asa Gibson reports
Faced with an unprecedented period of ultra-low interest rates and growing pressure to demonstrate a role in supporting sustainability initiatives, investing in renewable energy seems like a win-win opportunity.
Insurers have been gradually increasing their holdings of renewable energy assets during the past few years, with certain players leading the charge, such as German groups Allianz and Munch Re.
"As insurers our investments are liability driven and this profile determines how we invest. The low growth and low interest rate environment opens up more opportunities outside the traditional investment area, such as renewables," says Matthias Seewald, chief investment officer for Allianz's French business, speaking at the Insurance and Climate Risk conference in London last week (15 November)
The Allianz Group has own investments in renewable energy valued just shy of €5bn ($5.9bn), managed by its in-house asset manager Allianz Capital Partners.
Investment opportunities will continue to expand, if you give credence to the forecasts of renewable energy output versus traditional energy: by 2022, electricity generation from renewables is expected to grow by more than one-third to over 8,000 terrawatts per hour, equal to the total power consumption of China, India and Germany combined, according to research by the International Energy Agency (IEA). If this materialises, the share of renewables in power generation will reach 30% in 2022, up from 24% in 2016.
In the next five years, the IEA predicts growth in renewable energy generation will be twice as large as that of gas and coal combined. According to the agency's forecasts, coal remains the largest source of electricity generation in 2022, but renewables halve their gap with coal, down to 17% in 2022 (see chart).
Timing is everything
As a long-term asset that often attracts long-term government subsidies, renewables suit the investment strategies of life insurers and annuity providers. But it's not easy money, and timing market entry should not be underestimated.
"If you want to invest in renewable energy, timing is the most essential thing," says Michiel Adriaanse, head of sustainable investments, investment specialists, alternatives EMEA at Deutsche Asset Management.
"Looking back at the past 10 years of the renewables market, I have seen a lot of investors — especially those with little experience — make huge mistakes. Germany was quite advanced on wind [generation] but one of the biggest failures made by institutional investors was in German wind because they came in too early," he adds.
"When I was head of project finance for Benelux there was a huge project in offshore wind, and at that time we were ready [to invest], it was a more established industry and prices were going down. If you were to invest now in offshore wind in Europe, or even worse onshore wind, you are very late in the cycle and you will see returns coming down rapidly.
"You have to ask: is this the right sector? Are you investing in the right asset class? In the right category?"
Of Allianz's almost €5bn renewable energy portfolio, a little more than 10% is held by the group's French entities, including wind and solar plants. Seewald says the group's drive towards renewables is supported by regulation – particularly the diversification benefits available under Solvency II.
"The returns we take from these assets are non- or negatively correlated with returns of other investments, so it does have a positive impact from the risk-return perspective," Seewald says.
However, there are also barriers to market entry for private investors that could be remedied, Seewald says, for example the strong presence of public investors, such as supranational banks, in the renewables financing markets.
"We need to make sure there is enough room in the overall alternative asset space — not just renewables — but also all related to infrastructure, for example, to arrive in a situation where there is no crowding out by public investors of the private investors, like insurance companies," Seewald says.
"There needs to be clear separation of opportunities in a way that the semi-public institutions should support the growth of these markets, whether it is infrastructure or renewable energy, by also taking what would be considered the highest risk portion of those investments based on their capacity to take the risk."
Seewald believes dialogue between private and public institutions about the risk-bearing capacity of each side would be a step towards addressing the situation. "If you take out the riskiest pieces you could see a significant increase in the interest from private investors in the space."
The long-term, stable cash flows and uncorrelated returns of Allianz's renewable energy assets are complemented by a favourable treatment under its internal model, Seewald says, before emphasising the importance of the risk-adjusted returns.
"Whenever we want to get into a new type of investment, the decision is always based on the risk-adjusted return after the Solvency II capital charge. Without this consideration I cannot present any new ideas to the respective committees," he says.
"A key aspect in the determination of the risk capital charge is clearly the diversification effect of investments in renewable energy as this contributes significantly to the reduction of risk capital charges for this type of investments. Correlation of returns with other asset classes as well as the absence of cumulative risk also play a role in this respect."