As we start 2021, alternative energy is one of the hottest sectors in the stock market.
Funds that focus on this industry generated massive gains for investors last year. For example, the VanEck Vectors Low Carbon Energy ETF (SMOG) soared 118% in 2020.
I expect this performance to continue this year due to a combination of favorable tailwinds for the industry. For one, demand for green energy is in a long-term uptrend. International agencies, global corporations, and individuals continue to look for alternatives to “traditional” energy sources like oil.
And as I’ll explain, the political environment creates another catalyst for the sector.
Today, I’ll explain the alternative energy industry and why I’m so bullish on it… and three different alternative energy ETFs to take advantage of this growth.
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What is alternative energy?
The alternative energy industry includes a range of companies focused on the generation, distribution, and sale of clean and renewable energy—including wind, solar, geothermal, and hydropower.
The industry also includes companies that offer products and services that provide clean energy. For example, some companies focus on advanced rechargeable battery technology.
For many investors, alternative energy represents the future. Until recently, the energy industry relied almost exclusively on fossil fuels like coal, oil, and natural gas.
Historically, fossil fuels were the cheapest way to power homes, factories, and automobiles. But alternative energy costs have declined sharply thanks to improving technology. It’s also worth noting the world will eventually run out of coal, oil, and natural gas at some point… forcing a switch to alternative sources.
For some investors, the bigger issue is protecting the planet. Fossil fuels release carbon dioxide when they’re burned, creating pollution. And rising carbon dioxide levels raise the earth’s temperature.
Why invest in alternative energy?
While alternative energy had been slowly gaining attention from investors, 2020 was a breakout year for the industry. Electric vehicle stocks like Tesla (TSLA) and NIO (NIO) soared 743% and 1,112%, respectively. Other renewable energy stocks like Enphase Energy (ENPH) and SunPower (SPWR) also jumped hundreds of percent.
But more importantly, the COVID pandemic created a significant drop in oil prices. This drop helped convince oil and gas companies that they need to diversify their operations to include renewable energy.
The industry also received a boost from politicians. The World Economic Forum, the United Nations, International Energy Agency, and the European Union are all implementing green stimulus plans. The U.S. also passed its largest energy bill in a decade. This bill includes the Energy Act of 2020, which includes $35.2 billion in new energy initiatives and clean energy funding.
Lastly, the election of Joe Biden creates another catalyst for the alternative energy sector. Biden says he’s considering removing billions in federal subsidies from fossil-fuel companies and putting a price on carbon emissions. His administration has a $2 trillion plan to fight climate change by supporting solar energy, battery technology, renewable energy, and electric vehicles.
These factors combine to create a strong tailwind for the alternative energy industry.
How to profit from the alternative energy revolution
While some investors prefer individual stocks, a safer option is to invest in exchange traded funds (ETFs) that offer exposure to different parts of an industry.
Buying an ETF works the same as buying an individual stock. But these funds own dozens of stocks, which means we get the benefits of diversification. And, as you probably know, diversification is one of the best ways to reduce the volatility of your portfolio.
Here are three ETFs that offer incredible potential this year…
VanEck Vectors Low Carbon Energy ETF (SMOG)
This ETF invests in low carbon energy stocks. These companies focus on energy sources like biofuels, hydropower, wind, solar, and geothermal. They also focus on technologies that support the production, use, and storage of these fuel sources, including batteries.
As I mentioned at the start of this article, SMOG soared more than 100% last year and is already up 14.7% over just seven trading days!
The ETF has a concentrated portfolio with only 30 holdings. It’s a global fund with the U.S., China, and Demark making up 87% of the portfolio. The majority of the fund is in large-cap stocks. Its top two holdings include electric vehicle heavyweight Tesla and Chinese rival NIO. Other holdings include electrical power management company Eaton Corp (ETN) and hydrogen fuel stock Plug Power Inc. (PLUG).
If you’re looking for a broad-based green energy ETF, SMOG is an excellent choice.
Invesco Solar ETF (TAN)
As the name suggests, this ETF focuses on solar energy stocks. It invests in a combination of growth and value stocks of solar energy companies, giving investors exposure to the entire solar sector. TAN soared an incredible 234% in 2020, fourteen times higher than the S&P 500’s 16.3% return. The ETF is already up 12.7% this year.
Like the VanEck Vectors Low Carbon Energy ETF, TAN has a concentrated portfolio of only 30 holdings. The top ten positions make up 61% of the total portfolio. Many of the top holdings are a “who’s who” of top solar companies, including Enphase Energy (ENPH), Sunrun (RUN), SolarEdge Technologies (SEDG), and First Solar (FSLR).
The Invesco Solar ETF is a great option for investors looking to focus specifically on the solar industry.
First Trust Global Wind Energy ETF (FAN)
The last fund on my list is the First Trust Global Wind Energy ETF. This fund tracks the ISE Clean Edge Global Wind Energy Index, which invests in companies in the wind energy industry. This includes companies that develop and manage wind farms, distribute electricity generated by wind power, or make equipment and machinery for other wind energy companies.
This ETF’s top holdings include Siemens Gamesa Renewable Energy, Vestas Wind Systems, and Orsted. All three companies are located outside the U.S. The top U.S. stock is TPI Composites, Inc., which manufactures and sells composite wind blades.
FAN holds 49 stocks, making it more diversified than the other two ETFs I mentioned. It’s up 148% from its lows in March 2020. But it pulled back a bit this week, giving investors a chance to buy it on a dip.
If you’re looking to gain access to one of the top-performing industries over the past ten months, look no further than these three ETFs.
Last year set the stage for a breakout in the alternative energy sector, and with an improving political environment in 2021, these ETFs should generate additional gains over the next year or more.