Stephen Derkash on solar’s challenges and game changers

Stephen Derkash, senior advisor at EQM Indexes and HANetf’s partner on the Solar Energy UCITS ETF, joins Opto Sessions to discuss solar’s prospects, the key challenges, bottlenecks and game changers ahead, and how the ETF offers exposure to the companies assisting the clean energy transition.

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Stephen Derkash is senior advisor at EQM Indexes and HANetf’s partner on the Solar Energy UCITS ETF [TANN.L] — Europe’s first-ever pure-play solar fund, launched in 2021. He leads EQM’s global and ESG product initiatives, and is an expert on the solar and clean energy investment themes.

Derkash has nearly two decades of experience as a global portfolio manager, and previously worked in investment banking and equity research. He worked as portfolio manager at the $40bn hedge fund Millennium Management, as well as at UBS Asset Management. Prior to those positions, Derkash gained experience at Nicholas-Applegate Capital Management, developed his expertise in emerging markets while working on the investment banking team at Lehman Brothers in New York and conducted sell-side research at a leading European bank in Brazil.

Solar industry set to overtake coal

As global economies prepare to decarbonise, the solar energy industry is positioned for major growth.

“We’ve been a world, for 100 years really, driven by coal — in China, India, the US — everywhere,” says Derkash.

Solar may have started “from almost nothing a decade ago”, but “the projections are pretty much that solar is going to play an outsize role in electricity production moving forward.

“By 2027, the installed capacity base of solar is going to surpass coal,” according to Derkash, “and then just grow from there”.

Driving solar power’s rapid growth is a 90% reduction in costs over the last decade. “If you are comparing it to an already built coal plant or natural gas plant, in many regions of the world, solar is now the cheapest option for electricity,” he says.

In addition, global electricity consumption is increasing, and “solar has a huge role in all of this”.

Broad exposure to solar theme

The Solar Energy UCITS ETF tracks the EQM Global Solar Energy Index. The fund gives exposure to a range of companies deriving income from solar-related operations, from makers of photovoltaic panels to those generating power at scale and installing solar energy systems.

This broad base reflects the fact there are many ways to play the theme. As Derkash points out, “Some companies are integrated, while others just focus on one part of the supply chain.” The TANN ETF is designed to “get access to all the themes” — an advantage, says Derkash, given performance is often cyclical for individual sub-sectors, like specific raw materials that may face fluctuating supply and demand.

TANN is distributed by HANetf, EQM’s partner in Europe, and offers a “modified equal-weight approach”, says Derkash. Out of its 38 holdings, 35 are pure-play solar companies. “The other five are what we would call non-pure play, or non-core.”

One example of the latter is Tesla [TSLA]. “Tesla bought SolarCity back in 2016, from Elon Musk's cousin… It’s not a main driver for Tesla, but if you were to spin it off, it would be important. So we take that and say OK, it's a non-core position, let's half-weight that. Those weightings would typically be about 1.5% of the portfolio, while core positions would have a weight closer to 3%.”

Solar catalysts and obstacles

A game changer for clean energy has been the US government’s Inflation Reduction Act (IRA) of 2022, which offers a $369bn package of funding for investors in renewable resources — Derkash calls it a “big, big deal”.

“You're already starting to see announcements by certain leading global solar companies coming into the US and setting up plants here.”

The beneficiaries will be up and down the supply chain, he says. “It starts with polysilicon, which is the raw material, and then you produce ingots. Those go into solar cells, which go into the modules, and then developers buy the modules.”

He says electricity prices should continue to fall over the next decade alongside technological improvements despite “bottlenecks and barriers”, like plugging into the grid and waiting in queues to do so. This challenge could be resolved by improving transmission lines “to get solar from one place to another”, but that presents aesthetic and lifestyle challenges. “People don't necessarily want to see huge solar farms or windmills right next to them.”

There is also the question of intermittency. “That's the big issue with solar or wind… it’s only when the sun is shining that you have the power.”

However, with these challenges come possible solutions. “The first is seeing if you can increase your territory, size and length of transmission lines. If the sun is shining strongly in Spain, and not a lot of wind blowing in the rest of Europe, for example… if you had long transmission lines, you could transmit the energy from Spain up through Europe, and it could reach Northern Europe and Scotland, and vice versa.” He says one area to watch is the companies producing high voltage cables to solve this issue.

Another solution will be improved battery technology. “We're not at the stage yet where we can get a multi-day or week-long battery, where you can store up solar.” When this does happen, Derkash says it will be “another game changer”.

There are wider challenges too, says Derkash. “Certain fossil fuel companies don't see solar as their core skill set, even though they recognise the need to partake if they want to remain relevant going into the future, when fossil fuels decline.”

Interesting times for solar

Going forward, Derkash identifies three main drivers of solar adoption. “Cost is probably first and foremost, because it's one thing to have green targets, but if the costs don't make sense economically, it probably won't get implemented.”

The second is policy. Around the world, three regions are implementing solar on a large scale. “China is number one. In their most recent five-year plan, they upped the ante. They're putting in about 50% of all solar globally and make up about 90% of the supply chain.”

The next biggest is the EU. “With their initiatives for REPowerEU and the Green Deal, they are really putting their weight behind solar.” The third most active region is the US, with the IRA.

The final driver for solar, says Derkash, is energy security. “The big catalyst was Russia's invasion of Ukraine. Europe had predicated its industrial policy on accessing inexpensive Russian oil and gas. As that became a lot more tenuous, it was a very quick shift. Now there's a lot of emphasis on energy security, pointing towards solar and other energy technologies.”

Looking forward, Derkash says: “It's going to be an interesting next decade to see how fast this growth comes through for solar.”

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