Blowin' in the Wind: The 21st Century Wind Energy Surge

4 minute read
By Annie Dysart and John Heneghan • October 14, 2020

image from

"Wind power plant" by Mathias Appel


The history of wind power can be traced back 7,000 years ago to the use of sailboats by the Egyptians and Phoenicians. Humans have used the mechanical energy of windmills for hundreds of years to mill grains and pump water. Wind power was not used to produce electricity until 1888 when Charles F. Brush invented the first wind turbine generator in Ohio. 


To convert wind into electricity, the blades of a turbine are spun by wind around a rotor, which spins a generator, which creates electricity. The average wind turbine has a capacity of 2  megawatts (one megawatt (MW) equals 1 million watts), yet innovations in technology are paving the way for wind turbine productivity to exceed 10 MW in the near future. 


image from

The global installed wind capacity from 1982 to 2017 (International Energy Initiative)


Over the past four decades, wind energy grew faster than any renewable technology.  The industry employs over 1 million people across the globe with installations in over 100 countries. The U.S. has six of the ten largest onshore wind farms in the world. 


By the first quarter of 2020, the United States reached an installed capacity of approximately 107 gigawatts (GW), enough energy to power over 32 million American homes (one GW is equivalent to 1,000 MW and can power 750,000 homes annually).  The U.S. has the second largest wind energy capacity in the world, still trailing far behind China’s installed capacity of 221 GW.


In 2019, wind power provided 7% of the United States’ electricity, making it the most prevalent source of renewable energy in the country. An additional 9 GW of wind power was built in 2019, representing 39% of the nation’s new utility-scale power that year.  


image from

The U.S. wind industry installed 1,821 MW of new wind power capacity in the first quarter of 2020, a 117% increase over the first quarter of 2019 (American Wind Energy Association)


Texas has an installed wind power capacity of 29 GW (27% of U.S. installed wind capacity), over three times greater than any other U.S. state. Its large capacity can be attributed to its location within a wind corridor — a region characterized by high-speed winds stretching from the upper Great Plains to western Texas.


The share of non-hydro renewables in the United States increased from less than 1% in 2005 to nearly 10.1% by the end of 2018. This growth occurred during a time of relatively stable electricity demand, a testament to renewable energy’s disruptive effect on the electricity industry. The Center for Climate and Energy Solutions projects that the national energy share of the United States’ renewable energy — including hydroelectric — will increase from a value of 17.1% in 2018 to 24% in 2030.


Growth Potential of the Offshore Wind Sector

Wind turbines can be constructed on land, offshore in the ocean, or on big lakes. In 1991, Vindeby Offshore Wind Farm in Denmark became the world’s first offshore operation. Offshore wind power is more powerful than onshore wind power because of exposure to more consistent coastal winds. The largest, most powerful offshore wind turbine is GE’s Haliade-X 12 MW turbine. The 107 meter blades are so long that they might be one of the largest machine components ever built.


The United States has an enormous opportunity to capitalize on coastal territories and grow its tiny offshore wind sector. The Block Island Wind Farm is the nation’s only offshore wind farm:  a 30 MW, five turbine operation established in 2016 off the coast of Rhode Island.


According to the Office of Energy Efficiency & Renewable Energy, over 2,000 GW of wind power could be accessed along the coasts of the United States and the Great Lakes. This 2,000 GW potential represents an electricity generation capacity that doubles the current capacity of all U.S. electric power plants. 


Over $200 million dollars has been allocated by the Department of Energy for competitively-selected offshore wind research, development, and demonstration projects. Development of floating offshore wind platforms suitable for deep waters is a key focus area because over 58% of U.S. offshore wind resources are located in deep waters. 


image from

Floating vertical-axis wind turbine platforms (Office of Energy Efficiency and Renewable Energy) 


Advantages of Wind Power

Wind energy is a sustainable, emissions-free power source that does not depend on fossil fuels. In 2019, approximately 42 million cars’ worth of yearly emissions was avoided through wind energy generation.


Typical wind projects can offset their carbon footprint in six months or less (carbon offsets work by reducing emissions of carbon dioxide or other greenhouse gases in order to compensate for emissions made in manufacturing and citing the wind farm).


In 2018, carbon dioxide (CO2) emissions from fossil fuel combustion for energy represented about 75% of total U.S. anthropogenic (originating from human activity) greenhouse gas emissions and about 93% of total U.S. anthropogenic CO2 emissions. The heat-trapping nature of greenhouse gases like CO2 alters the transfer of infrared energy through the atmosphere and contributes to the planet’s rising temperatures. 


According to NASA, there is greater than a 95% probability that Earth’s current warming trend is the result of human activity since the mid-20th century a trend accelerating at a rate unmatched over millennia. Zero emissions energy sources like wind power are necessary and urgent solutions to mitigate climate change and protect life on the planet. 


image from

NASA: Based on the comparison of atmospheric samples contained in ice cores and more recent direct measurements, atmospheric CO2 has increased since the Industrial Revolution (NOAA)


Wind power operations do not need water to produce electricity. This saves billions of gallons a year compared to the amount of water required to run conventional fossil fuel power plants, which can eventually end up in nearby waterways and pollute marine ecosystems. 


According to the Wind Powers America Annual Report 2019, the expansion of wind power in America has generated positive economic benefits. It has provided jobs to over 120,000 people across all 50 states, supported 530 domestic factories, and generated $1.6 billion a year in state and local taxes and landowner lease payments. 


Growing wind and renewable energy operations in the United States will contribute to energy independence and national security. Renewable power presents a dependable, domestic energy source free from the risks associated with foreign energy sources or supply chains. It will also help support more self-sustaining, domestic microgrids that can provide electricity in natural disasters or situations that require power for national defense operations.


Wind power is less prone to harmful, life-threatening malfunctions than other energy sources. Some examples include nuclear disasters like Chernobyl in 1986 or Fukushima in 2011, the 2009 accident at Sayano Shushenskaya Dam, petroleum oil spills, and coal mining accidents. 


Drawbacks of Wind Power

Though no emissions are produced during wind energy operations, there are still negative environmental impacts incurred during manufacturing, transport, installation, and maintenance processes. A circular economy approach can help mitigate environmental burdens by using cleaner and higher quality recovered carbon fiber building materials that can be recycled and reused. 


Wind turbines pose a risk to birds or bats that might collide with the sharp, fast-moving blades of the turbine. The U.S. Fish and Wildlife Service estimates that between 140,000 and 500,000 bird deaths occur at wind farms each year. One solution being used to decrease bird fatalities is painting one turbine blade black.


image from

This chart shows the annual estimated bird mortality for selected anthropogenic causes in the U.S. (U.S. Fish and Wildlife Service)


Bird and bat deaths due to wind turbines are far less common than deaths due to collisions with buildings, communication towers, vehicles, powerlines, and other manmade installations. Other risks associated with wind turbines include blade icing and oil leaks. However, proper maintenance and technological innovations help avoid these problems. 


Wind turbines have generated noise complaints from nearby homeowners. However, a typical wind turbine produces a noise level of about 50 decibels (dB), similar to the noise level of a midsize window air conditioner or a car traveling at a speed of 60 km/h. Wind turbines are rarely built within 300 meters from the closest home.  


image from

This graphic by GE provides context about wind turbine noise (decibels) versus distance (meters)


The Not in My Backyard, or NIMBY, Syndrome is another consequence of wind turbine installation. Some people may be fond of the idea of renewable energy, yet resent nearby wind turbines that block surrounding views or decrease property values.


Investing in Wind Energy

Global investment in renewable energy hit a record high of $282.2 billion in 2019. This 1% increase from global spending in 2018 plus declining costs of wind and solar bolstered last year’s 180 GW increase of global renewable energy capacity. 


The director general of International Renewable Energy Agency (IRENA), Francesco La Camera, claims investing $130 trillion over the next 30 years towards renewable energy systems would provide economic benefits three to eight times the amount of those investments. 


IRENA’s 2020 Global Renewables Outlook report highlights sustainable investment options and policies that will pave the path towards a cleaner energy system. Its recommendations align with goals set by countries involved in the 2015 Paris Agreement to limit global warming to well below 2 degrees Celsius above pre-industrial levels and hold it to 1.5 degrees Celsius


IRENA’s report predicts that increased investments on renewables could quadruple global jobs in the industry to 42 million by 2050. Energy efficiency measures would create 21 million jobs and system flexibility measures (measures that support the capability to change power supply and demand of the system as a whole or a particular unit such as flexible generation, stronger transmission and distribution systems, increasing storage capacity and demand-side management) could produce 15 million additional jobs.


Wind and solar projects represented 99% of the $55.5 billion invested in U.S. renewable energy capacity investment in 2019. Wind and solar companies scrambling to qualify for federal tax credits played a major role in the nation’s renewable investment growth.


Wind energy projects are very competitive from a levelized cost of production standpoint. Over 50% of the renewable energy capacity added in 2019 had lower electricity costs than new coal. The global weighted-average cost of electricity of new onshore wind farms in 2019 was $0.053 per kilowatt hour (kWh). The most competitive projects can dip to as low as $0.030 per kWh, without financial support from the government. Trends of falling wind turbine costs are expected to continue. 


Investing in Wind, Renewables, and Clean Technology with ACES

Increased utilization of wind power and renewable energy will be one of the most critical steps towards carbon neutrality. Renewable energy alone will not suffice in achieving global decarbonization goals: innovations in energy efficiency and storage like lithium ion batteries and smart grid technologies will be essential in making strides towards comprehensive clean energy. 


We find the idea of investing in the future of wind power and renewable energy compelling and in alignment with client ESG preferences.  We believe ALPS Clean Energy ETF (ACES) is the most efficient, broadly diversified approach to play the decarbonization megatrend of the next decade and beyond. 


ACES contains two categories of constituents in the U.S. and Canada that operate in the clean energy sector. Renewable energy is the first category, including companies focused on wind, solar, hydro, geothermal, biomass, and biofuel. The second category, clean technology, includes companies that develop electric vehicles, energy storage, efficiency, light-emitting diode (LED), smart grid, and fuel cells. 


image from

These charts summarize ACES’ portfolio composition based upon sector (utilities, industrials, etc.) and decarbonization themes (wind, smart grid technologies, etc.)


ACES is a differentiated, pure-play approach to the decarbonization trend. ACES concentrates on companies whose primary operations are focused across the clean energy sector, diversify across sub-segments, and align with ESG standards. 


If you are looking to invest with purpose and promote a cleaner, safer planet for current and future generations, we believe the answer is blowing in the wind and encourage you to invest in renewables like wind power through ACES. 



Go with the Flow — Investing in Hydro

5 minute read
By John Heneghan and Annie Dysart • September 8, 2020



What is Hydropower?


Hydropower is a type of renewable energy that uses the force of flowing water to produce electricity. Its energy comes from the water cycle: the continuous movement of water on, above, and below earth’s surface. Hydropower is a renewable technology because it captures naturally occurring energy from the water cycle and produces electricity without reducing or using up water. The marginal cost of production for hydropower — and renewables like solar, wind, and geothermal energy —  is zero.


Check out this 3-minute video on hydropower.


The most common type of hydropower production is an impoundment facility. Impoundment uses a dam to hold river water until it is released through a turbine to activate a generator and produce electricity. The U.S. has over 90,000 dams, yet only 3% are active hydropower facilities. The majority of dams in the United States were originally built for irrigation or flood control purposes. 


In 2019, conventional hydroelectricity’s generation capacity in the United States was 79,746 megawatts (MW) — or about 80 million kilowatts. This is enough electricity to fuel 32 million homes a year.  The state of Washington produces the most energy from impoundment. It is home to the Grand Coulee Dam, the largest U.S. hydropower facility and the largest U.S. power plant in generation capacity.


Dams are controversial because of potential harmful environmental impact. They destroy carbon sinks in wetlands and oceans, deprive ecosystems of nutrients, reduce biodiversity, cause habitat fragmentation, and displace poor communities. Fish ladders —  a series of ascending pools that allow fish to circumvent a dam —  are a solution to impoundment facilities that would otherwise hinder the migration of species like salmon up and down rivers.


Another type of hydroelectric power is diversion, also known as a run-of-river facility. This method diverts part of a stream through a canal or penstock to spin a turbine and produce energy before the water rejoins the main river. The typical capacity of a diversion facility is less than 30 MW. 


Many run-of-river facilities across the nation are owned by small individual operators and very large scale utilities that view these facilities as low value assets burdened by old equipment, inefficient operations and often low power prices. 


Pumped storage facilities store energy for later use by pumping water uphill when electricity is cheap to a reservoir at higher elevation. When demand for electricity is high, water is released to a lower reservoir and through a turbine to generate electricity. 


Hydro operations can operate under federal, public, or private ownership. There can also be public-private and public-federal partnerships. Federal agencies operate about 49% of the total installed hydropower capacity in the U.S., public agencies operate about 24%, and private agencies operate about 25%. 



Hydropower accounts for around 6.6% of the electricity generated in the United States. Hydropower was the nation’s largest source of renewable energy until it was surpassed by wind power in 2019. According to the U.S. Energy Information Administration, total annual electricity generation from utility-scale non-hydro renewable sources (wind, solar, biomass, etc.) has been greater than hydropower generation since 2014.  

Total renewable energy resources represent 17% of U.S. electricity generation while dirty coal still represents 23% of generation and is a major contributor to greenhouse gases. Renewable energy sources, including hydro, are poised to take coal’s market share aided by technology advances in energy storage.



Advantages of Hydropower


Hydropower offers the lowest levelized cost of electricity across all major fossil fuel and renewable energy sources. Hydro is a reliable, cost-effective energy source due to low-maintenance equipment and longer facility lifespans that amortize significantly large upfront capital costs over time.


The total conversion efficiency of a hydropower plant ranges between 90-95%. Conversion efficiency is the useful energy output divided by the energy input —  for hydro, it is the hydroelectricity output divided by the kinetic energy of flowing water input. Hydropower’s conversion efficiency is greater than the conversion efficiency of both wind and solar, with wind at a rate of about 45% and solar at 25%.


Hydropower has high diversification potential with other renewable energies. A portfolio with hydro, wind, and solar energy that is diversified across energy sources and regions can have a stabilizing effect on asset portfolios.  Hydroelectric facilities provide baseload power; they run continuously to meet the minimum level of power demand. This consistency makes hydropower complementary to intermittent renewables like wind and solar that can only generate electricity when the sun is shining or the wind is blowing. Hydropower depends on the more reliable flow of water to help meet baseline electricity demands while other renewables can supply peak demands. 


Hydropower and Renewable Energy Storage


The push for decarbonization through renewables will require innovation in energy storage technologies that addresses the intermittencies of wind and solar energy. While pumped-storage hydropower accounts for 95% of U.S. utility-scale energy storage, lithium-ion battery storage has seen tremendous growth. The price of lithium-ion batteries has fallen by about 80% over the past five years, enabling the integration of storage into solar power systems. 


NREL’s Renewable Electricity Futures Study estimated that if 80% of the United States’ electricity is powered by renewables by 2050, 120 gigawatts of storage would be needed across the nation. The U.S. currently has 22 gigawatts of storage from pumped hydropower and 1 gigawatt from batteries.


Another opportunity looming on the hydro horizon is the potential coupling of hydropower and Bitcoin mining. Bitcoin mining lacks an eco-friendly reputation as an energy-intensive process with a large carbon footprint. However, this can change if miners use electricity from renewable sources. 

Much like energy storage utilizing lithium-ion batteries, Bitcoin and other cryptocurrencies are an energy storage technology. If energy is converted into bitcoins and stored for future purchases, it could contribute to the storage needed for the renewable energy revolution. 


Bitcoin miners can choose their location based on the cheapest cost of electricity, which happens to come from cleaner baseload energy sources like hydro, geothermal, and natural gas. More Bitcoin mining operations could be established proximate to renewable energy plants and have a positive environmental impact by reducing emissions and soaking up surplus energy that would otherwise go to waste.


Go with the Flow  Investing in Hydro 


Current trends show wind and solar energy assets are more frequently represented in institutional investors’ portfolios than hydropower assets. Hydropower facilities tend to have high upfront costs, complex installation processes, and absence from the market due to a history of public ownership and project sponsorship. These are some of the factors that create a scarcity of  hydroelectric investment opportunities.


Brookfield Renewable (BEPC: NYSE) is one of the world’s largest investors in renewable energy. Its strong ESG practices support global decarbonization and create long-term value for stakeholders.  It is geographically and technologically diversified, with 19,300 MW of renewable capacity located across North America, South America, Europe, India, and China. Hydro represents 7,900 MW (53% in U.S. & Canada), or 41% of capacity, followed by 4,700 MW of wind (52% in U.S. & Canada), 2,600 MW of solar, and 2,600 MW of energy storage and distribution assets. 


Brookfield has an investment grade, BBB+ balance sheet. Brookfield’s diverse and high-quality cash flows and strong financial position allow it to pursue growth opportunities and make distributions to shareholders. It targets annual equity deployment of $800 million in high-quality assets. Their investment strategy involves acquisition and development of high-quality renewable power assets and businesses below intrinsic value, recycling of capital from mature, de-risked assets, optimization of cash flows through operating expertise to enhance value, and financing businesses on an investment grade basis. 


Brookfield partners with governments and businesses to achieve their decarbonization goals. It has an 18,000 MW development pipeline diversified across multiple technologies and geographies, including approximately 2,400 MW under construction. 


Since 2012, Brookfield EPC has grown its annual distribution by 6% compound annual growth rate. Brookfield expects to continue distribution growth by 5% to 9% annually and deliver total returns of 12% to 15% to unitholders over the long-term. 


Brookfield is the best way to go with the flow on the decarbonization megatrend and invest in the inevitable transition to renewable hydro, wind and solar energy. 

Investing with Purpose

6 minute read

By John Heneghan and Annie Dysart • July 30, 2020



ESG and SRI Investing

Environmental, Social, and Governance (ESG) criteria are used by investors to guide more sustainable and socially responsible investment. ESG falls under the umbrella of socially responsible investing, or SRI. SRI is any investment strategy that considers both financial returns and social and environmental impacts when evaluating the suitability of investments. 


Incorporation of ESG criteria helps asset owners align investment decisions to their values and beliefs. It facilitates investing with purpose. ESG links health and wealth outcomes, highlighting the interdependence of healthy populations, environments, and economies. 


Environmental criteria address issues like climate change, pollution reduction, and sustainable utilization of natural resources. They increase pressure for regulations that establish environmental liability and steer markets towards sustainable products and services. Companies are evaluated for practices like greenhouse gas emissions, water usage, and waste disposal and encouraged to be transparent about these practices. 


Social criteria look at how a company interacts with employees, suppliers, customers, and communities. It addresses workplace health and safety, discriminatory practices, diversity, human rights issues, and again, transparency about these practices. 


Governance criteria assess company leadership, board structure and diversity, executive pay, audits, internal controls, and shareholder rights. It evaluates accounting and disclosure practices and controls to prevent corruption and bribery issues. 


The more sustainable a company, the higher its ESG score. Investment strategies that integrate ESG criteria into portfolios decrease the weight of companies with lower ESG scores and increase the weight of companies with higher ESG scores. Third parties evaluate company disclosures to subjectively generate these scores.


Several ESG ratings firms now exist to assess and score the ESG disclosures, such as Sustainalytics (with an ownership stake by Morningstar), Institutional Shareholder Services, and MSCI. Think of these as the Moody’s and Standard and Poor’s for sustainability. 


Types of Sustainable Investing

ESG integration is one of the most common types of sustainable investment strategies. Restriction screening is also very popular, commonly practiced through negative screens of industries like tobacco, weapons, or environmentally damaging operations. Morgan Stanley defined five types of sustainable investing or SRI:

  • ESG Integration - Proactively considering ESG criteria alongside financial analysis. 
  • Restriction Screening - Exclusionary, negative or values-based screening of investments.
  • Impact Investing - Seeking to make investments that intentionally generate measurable positive social and/or environmental outcomes.
  • Thematic Investing - Pursuing strategies that address sustainability trends such as clean energy, water, agriculture or community development.
  • Shareholder Engagement - Direct company engagement or activist approaches.


The Rise of Socially Responsible Investing

Amy Domini is known as the godmother of socially responsible investing. She started the SRI movement in the 1990s and made the Time 100 list of the world’s most influential people in 2005. She said, “We must continue to stand together to demand that the search for monetary profits not come at the detriment of universal human dignity nor the undermining of ecological sustainability.”  


The emergence of the term “ESG” traces back to a 2004 report by the Global Compact titled “Who Cares Wins.” It was published in response to growing investor demand for more sustainable investment avenues and laid the foundations for a common understanding of ESG investment criteria. 


The report stated a belief that markets did not fully recognize the significance of emerging trends pressuring companies to improve corporate governance, transparency and accountability, nor the high stakes of reputational risks related to ESG issues. It emphasized the long-term importance of sustainable development, saying, “A better inclusion of environmental, social and corporate governance (ESG) factors in investment decisions will ultimately contribute to more stable and predictable markets, which is in the interest of all market actors.”


The incorporation of ESG principles and the practice of SRI have exploded in popularity. In 2017, 48% of retail and institutional investors worldwide applied ESG principles to at least a quarter of their portfolios. By 2019, that percentage surged to 75%. The European Union (“EU”) holds the most sustainable invested assets at $14.1 trillion US dollar (USD) equivalents. The United States follows with $12 trillion USD of sustainably invested assets. 


SRI now accounts for one out of every four dollars under professional management in the United States. In Europe, it accounts for one out of every two dollars. Sustainable investing is often a voluntary and strategic venture motivated by constituent demand, perceived potential for attractive financial performance, and evolving regulations driving greater disclosure on ESG factors.


Client demand from retail and institutional investors is the top reason for the incorporation of ESG factors in financial reporting disclosures. In the United States, corporations that provide ESG disclosures do so voluntarily. Unlike the EU, there is no definitive accounting or financial reporting framework in the U.S. under which ESG factors are measured and reported to stakeholders.


ESG is most popular among millenials, women, and high-net-worth individuals. 95% of millennials surveyed by Morgan Stanley in 2019 expressed interest in sustainable investing and 90% want to tailor their investments to their impact goals derived from personal values and beliefs. Millennials are poised to inherit over $68 trillion from their predecessors by 2030. Accordingly, the millennial ‘approach to investing’ will be an important determinant in the demand for ESG investments going forward.


The Deloitte Center for Financial Services (DCFS) projects client demand will accelerate ESG-mandated asset growth by three times that of non-ESG-mandated assets to comprise half of all professionally managed investments in the United States by 2025. Investment managers will likely respond to client demand for ESG by launching new ESG funds. 




The iShares ESG MSCI U.S.A. ETF (ESGU) launched in 2016 is the largest Socially Responsible ETF, with $7.8 billion in assets under management. ESGU tracks the MSCI USA Extended ESG Focus Index. This index is designed to maximize exposure to positive environmental, social and governance (ESG) factors as determined by MSCI’s ESG rating framework while exhibiting risk and return characteristics similar to those of the MSCI USA Index.  The index is sector-diversified and targets companies with high ESG ratings in each sector. It excludes tobacco and firearms manufacturers. iShares MSCI KLD 400 Social ETF (DSI) based on Domini’s groundbreaking work in socially responsible investing was the largest ETF prior to the launch of ESGU by BlackRock.


By February 2020, the number of ESG ETFs had skyrocketed to 293, with 805 listings globally. According to ETFGI, total assets invested globally in ESG ETFs reached a new record of $82 billion at the end of May 2020. There are currently 108 socially responsible ETFs traded in the U.S. markets, gathering total assets under management at a value of $37.2 billion and an average expense ratio of 0.39%. 


Several brand-name U.S. mega-cap companies are seizing opportunities to incorporate ESG into their governance frameworks and demonstrate to shareholders, stakeholders and customers that they are committed to sustainability. 


This year, Microsoft pledged to be carbon negative by 2030. By 2050, they aim to remove all the carbon emitted either directly or from electrical consumption since their founding in 1975. This carbon negative goal will be achieved through a $1 billion climate innovation fund to accelerate the global development of carbon reduction, capture, and removal technologies. 


By contrast, Starbucks has less ambitious (yet more attainable) sustainability goals. By 2030, the company aims to reduce carbon emissions by 50 percent; reduce waste sent to landfills from stores and manufacturing by 50 percent, and conserve or replenish 50 percent of the water currently being used for direct operations and coffee production. 


ESG Impact on Expected Returns 

Many investors express concern that ESG investing will limit their investment options and potentially lead to lower returns. Studies and analyses express varying conclusions regarding whether ESG investing helps or hurts overall portfolio performance. There is a lively theoretical and practical debate. 


In this video, Ben Felix from PWL Capital provides important insights to consider before committing to a sustainable portfolio, based on the assertion that sustainable portfolios provide lower expected returns. 


Felix discusses the impact of socially responsible investing on expected returns according to a December 2019 study written. After analyzing a global sample of 5,972 firms between 2004-2018, the authors concluded that companies with higher ESG scores tended to deliver lower average returns than companies with lower ESG scores. 


Investor tastes and preferences contribute to pricing effects on expected returns of sustainable and unsustainable companies. Investors with a strong preference for sustainable investments are less likely to invest in unsustainable companies that don’t reflect their core values and beliefs. They are more likely to invest in sustainable companies with lower returns for the tradeoff of aligning investment to their values. 


Another implication of this tradeoff is that sustainably-minded investors will require higher expected returns to consider investing in an unsustainable company; the opportunity for financial gain would have to overshadow their desire to uphold a socially responsible portfolio. 


At the other end of the spectrum, The Harvard Business School conducted a study in May 2019 that found companies adopting sustainability practices outperform their competitors. According to their analysis, a $1 investment over 20 years yielded $28 in return for companies focused on ESG factors versus a $14 yield for companies without focus on ESG factors.  So rather than sustainable portfolios providing lower returns, Harvard concluded that ESG factors enhanced returns.


Research Affiliates, a global investment research firm, recently weighed in on whether ESG integration contributed to portfolio performance in their report, “Is ESG a Factor?” Factors are stock characteristics associated with a long-term risk-adjusted return premium. In other words, factors can be systematically employed by investors to enhance portfolio returns. Factors must satisfy three critical requirements: they should be grounded in credible academic literature, consistent across definitions, and robust across geographies.


Research Affiliates concluded ESG was not a factor because there is little agreement in academic literature regarding its robustness in earning a return premium for investors, it lacks a common standard definition, and its performance results are not robust across geographies. They believe ESG is an important investing consideration despite dismissing it as a factor and lacking complete confidence in its ability to currently deliver as a theme. 


One of our core investment beliefs is that investor preferences are broader than risk and return. Nevertheless, ESG can be a very powerful theme in the portfolio management process in the years ahead.  However, as noted by Research Affiliates in their ESG factor analysis, one of the fundamental issues with ESG integration is that there is no common framework for evaluating companies’ ESG impacts. 




Call to Action

In his upcoming book, “Impact: Reshaping Capitalism To Drive Real Change”, Sir Ronald Cohen boldly addresses the obstacle of a lack of a common ESG impact measurement and assessment framework. He proposes the international adoption of “generally accepted impact principles” to transparently and consistently reflect the measurement of ESG impacts in financial statements to display “impact weighted profits.”


Cohen argues that today’s technology and big data allow us to reliably measure and assess impacts. He recommends that if governments force companies to publish impact weighted accounts, companies and stakeholders will develop a sharper focus on improving their impact and find creative solutions to social and environmental problems.  Cohen calls this novel approach impact capitalism.


Impact capitalism is the invisible heart of markets that drives the invisible hand of Adam Smith’s Wealth of Nations. Impact is the third essential dimension to consider alongside risk and return when considering possible investments. Connecting social initiatives to investment criteria in this manner will enable entrepreneurs to finance purpose-driven investment and charitable organizations. 


An investment is deemed attractive when its risk-reward potential is favorable . However, some investments have hidden costs that negatively impact employees, surrounding communities, or the environment. Many companies do not factor in the cost of mitigating social and environmental problems caused by their operations in their traditional investment analysis, such as a factory that emits air pollution and afflicts people in the area with respiratory problems. These unpaid costs, known as externalities, are often incurred by vulnerable populations that don’t have the means to fix the problem themselves. 


Impact investing presents an opportunity to take the pain out of profit. It creates a framework where financial success can be both self-interested and societally beneficial. When positive impact and profit coexist, everyone wins.  


We think impact capitalism has the potential to drive creative solutions for the many socioeconomic imbalances and environmental issues we face today. Watch for our upcoming digital series that will explore these critical matters in greater depth.


Wake Up to Bitcoin

8 min read


Wake Up to Bitcoin

By John Heneghan and Annie Dysart

Updated on June 2, 2020


What is Bitcoin and how does it work?


Bitcoin (BTC) is the most well-known and successful form of cryptocurrency with a market capitalization of about $170 billion at $9,300 per BTC and daily trading volume of $700 million.  It is especially popular among tech-savvy millennials who find it appealing for investment.  According to a nationwide survey by Bankrate in July 2019, millennials are three times more likely to invest in crypto than Generation X.  Bitcoin is the brand-name category killer and the Amazon of the digitally networked crypto world. 


Bitcoin is a digital and decentralized cryptocurrency built on blockchain technology. Blockchain architecture is designed to address concerns like decentralization, privacy, identity, trust and ownership of data. Blockchain’s democratized model uses distributed data storage, peer-to-peer transmission, consensus protocols, and digital encryption technology to validate transactions.  It is nearly impossible to counterfeit or double-spend cryptocurrency. 


Blockchain uses a public, digital ledger to create a fixed data chain of time-stamped transactions (blocks).  Blocks are chronologically strung together one after the other to form an immutable blockchain.  Transactions are cryptographically recorded and verified by a network of computers (consensus validation) that do not belong to any central authority. 


Every ten minutes, a set “block reward” of bitcoin is awarded to Bitcoin “miners.” Mining is the only way to “print” new Bitcoins into circulation. Miners use high power computers to solve complex math problems called hash functions to verify 1 megabyte, or 1 block, of Bitcoin transactions. 


Hash functions provide proof of work by processing data and generating another hash that matches the original data. Proof of work makes tampering with the blockchain very challenging; alteration of any kind would necessitate the re-mining of all subsequent blocks. 


Bitcoin’s supply issuance is strictly and algorithmically bound. The block reward is halved every 210,000 blocks, which takes about four years to mine. In 2009, the block reward was 50 Bitcoins every ten minutes, subsequently halving to 25 Bitcoins in 2013, 12.5 Bitcoins in 2016, and finally 6.25 Bitcoins in 2020. 


The supply of Bitcoin is capped by the blockchain code at 21 million. It would require network consensus to overwrite the coding language which is anathema to the value embedded in the Bitcoin network.  Currently, almost 18.5 million Bitcoins are in circulation, leaving approximately 2.5 million to be mined. The value of this “digital gold” will increase as its scarcity increases over time as fewer and fewer Bitcoins are “printed” with each successive halving until the supply is capped at 21 million.  The 21 millionth Bitcoin is expected to be mined in 2140. 


You can learn more about how Bitcoin and blockchains work in this 9 minute video from SciShow.


Blockchain and Fintech in China


China is the global leader in the use and development of blockchain technology.  China has by far the most blockchain patents in the world and more than 70% of the mining capacity.  Some of the biggest names in the crypto space are Chinese firms, including Binance, the world’s largest crypto exchange.  


Moreover, China is arguably the global leader in financial technology (fintech) solutions, particularly smart-phone based payment systems.  For example, the Chinese population has leapfrogged traditional credit card based payment rails with the dominance of mobile based Alipay and We Chat Pay.  Leveraging this fintech leadership, China has taken an early pole position in the development of an alternate global monetary and financial system by being the first country to issue a government backed digital currency


Why invest in Bitcoin? 


Bitcoin is a worthy investment for enhancement of portfolio diversification and improvement of expected returns without significant addition of portfolio risk.  


Although the price of Bitcoin has been highly volatile over time, historically investors that hold Bitcoin for the longer term, called “hodlers,” have been richly rewarded as Bitcoin’s historical return per unit of risk (Sharpe ratio) has been much greater than 1.0 with a five year annual return of 88% through May 31, 2020 on volatility of 66%.  


This compares to Research Affiliate’s forward-looking expected returns and risk for traditional asset classes wherein emerging market equities are viewed as the most attractive asset class.  Research Affiliates estimated EM equity’s Sharpe ratio at 0.42 today based on 10% nominal annual returns and 21% expected volatility.  A Sharpe ratio of 1.0 or better is unheard of in the traditional investment world.


A Bitwise investment study entitled, “The Case for Bitcoin in an Institutional Portfolio” concluded that “adding Bitcoin to a diversified portfolio of stocks and bonds would have consistently and significantly increased both cumulative and risk-adjusted returns of that portfolio over any meaningful time period in Bitcoin’s history, provided a rebalancing strategy is in place.” 


This positive portfolio impact endured even in periods in which the price of Bitcoin fell. The magnitude and consistency of Bitcoin’s contribution to portfolio efficiency when added to a traditional 60/40 portfolio were remarkable.  Bitwise’s study found that achieving these portfolio benefits only required a few critical practices:  

  1. Hold Bitcoin for two years or more - the historical record of positive portfolio contributions quickly approached 100%
  2. Disciplined quarterly rebalancing - sell your winners and buy your losing positions to get back to targeted allocation percentages
  3. Well-thought out targeted allocation percentage - maximum drawdowns are the main limiting factor in deciding how much Bitcoin to add to investor portfolios.



Bitcoin and Investor Concerns


In March 2020, Fidelity Digital Assets released a study that surveyed nearly 800 European and American institutional investors. In general, institutional investors (hedge funds, pension plans, family offices and registered investment advisors) are keeping a keen eye on Bitcoin and other digital assets, and there are an increasing number of early-movers who have taken the crypto plunge. Key findings of the study include:

  • 36% of respondents say they are currently invested in digital assets (adoption rate is much higher among hedge funds but in the low single digits for pension plans).
  • 6 out of 10 respondents believe digital assets have a place in their investment portfolio.
  • The three most appealing characteristics of digital assets to investors: they are uncorrelated to other asset classes, are an innovative technology play, and have high potential upside. 
  • Investors’ perceived advantages of digital assets over traditional alternatives like hedge funds or private equity: higher liquidity, low transportation costs, low transaction costs, low storage costs, and unique return drivers.

Fidelity’s study also highlighted investor concerns regarding digital assets:

  • Price volatility (53% of respondents) - (mitigated by well-thought out position sizing as suggested by above Bitwise study)
  • Concerns about market manipulation (47%) - (this is a concern for all securities or currency markets.)  
  • Lack of fundamentals to gauge appropriate value (45%) - (fundamental analysis has recently been published in Plan B stock to flow cross-asset analysis).


President of Fidelity Digital Assets Tom Jessop commented, “Investor concerns are largely focused on issues that will resolve themselves as the market infrastructure evolves. We’re proud to be one of many service providers actively driving that evolution for the benefit of the ecosystem and traditional investors alike.”  Fidelity Digital Assets envisions a future where all types of assets are issued natively on blockchains or represented in tokenized form.  In other words, Fidelity expects all traditional assets (stocks, bonds, currencies, etc.) will be issued and held on blockchain or in tokenized form.


Grayscale Bitcoin Trust

Grayscale Bitcoin Trust’s (GBTC) absorption of 25% of newly-mined Bitcoins in 2020 indicates higher demand for crypto exchange-traded instruments among retail investors.   With a market capitalization of $3.5 billion, GBTC is the investment vehicle of choice for investors, particularly smaller, retail investors.  


It is very difficult to buy Bitcoin right now through traditional investment brokerage accounts due to limited investment offerings.  GBTC is one of the few liquid, publicly listed exchange traded vehicles that invests in Bitcoin.  GBTC provides titled, auditable ownership through a traditional investment vehicle, can be held in tax advantaged accounts, and maintains robust security and storage protocols. 


In late June, Servant Financial initiated small, toehold positions in GBTC of 0.5% to 1.0% in client model portfolios, depending on investor risk profiles.  Our statistical analysis using historical data suggested that adding a 1% position in GBTC will increase expected returns by 1% annually while only increasing risk by 0.3 to 0.4% across all client risk models.  


In addition to enhancing portfolio efficiency, GBTC provides schmuck insurance in the event the global monetary and financial system were to fail (an event not represented in the historical data).  The more irresponsible and extreme the monetary and fiscal policy actions of the government become, the more Bitcoin will appreciate as an increasingly scarce store of value.  In extremis,  GBTC, Bitcoin, and gold would be expected to massively outperform traditional asset classes in the event of a total system crash.  With a maximum downside of 0.5% to 1.0%, GBTC provides a “bit or byte” of peace of mind with asymmetric upside for this fat tail risk. 



It’s Time to Wake Up to Bitcoin


Institutional investors are waking up to the unique characteristics of Bitcoin and crypto currencies, particularly after the legendary hedge fund manager Paul Tudor Jones recommended Bitcoin as “the fastest horse in the race” to beat the Great Monetary Inflation (GMI) - “unprecedented expansion of every form of money unlike anything the developed world has ever seen” - that we are presently experiencing.  


As Fidelity’s Jessop indicated, the infrastructure for large scale institutional investment in Bitcoin and crypto currencies is still under construction.  Today, there are only a few access points suitable for institutional investors’ large scale deployment.  For example, Jones’ hedge fund will take a “low single digit position” in Bitcoin through futures markets rather than direct holdings of Bitcoin.  His $40 billion fund already has existing connectivity with the major futures exchanges and well-established investment policies and procedures.


The developing nature of the market presents a distinct advantage for smaller, more nimble retail investors to get in front of the institutional money flows.  Recent investor surveys suggest that many retail investors are getting ahead of their investment advisors in knowledge and acceptance of Bitcoin as a suitable investment and are pushing their advisors to #getoffzero and make an initial portfolio allocation.


Past is Not Prologue - Are Valuations Irrelevant?

As markets rise, bullish market pundits are very prone to offer explanations for why fundamental valuation metrics shouldn't matter. But valuations have proven time and time again to be one of the strongest predictors of future returns.  We've covered this topic several times in past and have highlighted relevant work from Hussman Funds, GMO. as well as Research Affiliates.   At a recent investment symposium in London hosted by Research Affiliates, Rob Arnott dissected for a large group of institutional investors what today's valuations are telling us about future expected returns. 
Rob is the founder and chairman of the board of Research Affiliates, a global asset manager dedicated to impacting the global investment community through its insights and products. Please click here to view Rob's full video presentation and/or a copy of his Powerpoint presentation where full size versions of the images contained in this article can be accessed.  The content is free but you will need to become a register user with Research Affiliates to gain access. 
The following summarizes the key takeaways from Rob's presentation in bullet point form with accompanying charts:  
  • The link between starting valuations and subsequent returns is very powerful.  The chart below highlights the high correlation of starting cyclically adjusted price earnings and subsequent 10 year returns.  The cyclically adjusted price-to-earnings ratio, commonly known as CAPE, Shiller P/E, or P/E 10 ratio, is a valuation measure usually applied to the U.S. S&P 500 stock market index. It is defined as price divided by the average of ten years of earnings (moving average), adjusted for inflation. 
As the chart highlights, a high CAPE correlates with lower subsequent investment returns and a low CAPE is indicative of higher future returns.  The average correlation between CAPE and subsequent 10 year returns has been 75% across all of the major developed markets, including the U.S.  As John Hussman has repeatedly emphasized in his market commentary,  valuation levels are not useful, in and of themselves, for timing market tops and bottoms.  The experience of the later part of this bull market cycle is certainly a testament to this fact as valuations have continued to rise beyond previous valuation extremes despite obvious economic, trade, and political stresses.  Hussman believes that technical measures of investor risk appetite (market divergences, credit spreads, etc.) provide far better clues as to market timing than pure valuation metrics.  The current period of extraordinary Fed monetary policy of quantitative easing and test of the zero rate interest rate bound have fueled investor risk taking and severely limited market timing signals/warnings derived from traditional valuation limits.
CAPE Regression

  • Even after making multiple adjustments, U.S. equities face potentially severe headwinds from valuation contraction as valuations revert to their historical mean over time.  As depicted in the chart below, late October's headline CAPE for the U.S. of 29.4 was in the 95th percentile historically.  This compares to 1) the simple historical average of CAPE of 18.2 from 1926 through June 30, 2019, 2) the simple historical average CAPE of 21.2 since 1977 (modern market era), 3) Research Affiliates' adjusted CAPE for changes in business cycle and macro volatility of 21.6, 4) CAPE of 27.7 excluding the highest and lowest earnings years in the past 10 years, and 5) 28.7 if the lowest earnings year of the past 10 years is excluded.
    Research Affiliates estimates the current CAPE valuation differential implies an approximate 3% annual degradation in nominal S&P 500 total returns over the next 10 years as the market CAPE ratio reverts to more normal levels.


  • The largest stocks by capitalization are often the most expensive and have historically under-performed after reaching a top 10 valuation milestone.  Today's top ten are dominated by the six names of FANMAG (Facebook, Apple, Netflix, Microsoft, Amazon, & Google; third blue bar in chart below).  FANMAG's combined market valuation of $4.0 trillion is larger than only 2 out of 61 countries in the Morningstar Global Markets Index.  U.S. market excluding FANMAG valuation of $25.7 trillion and Japan $5.5 trillion are the two markets that exceed the valuation of FANMAG. Wow!




  • This next chart below walks through the valuation components of Research Affiliates 10 year expected nominal return of 2.6% for the S&P 500 - dividend yield of 1.9%, plus 1.2% of real growth and 2.1% from inflation, less (2.7%) valuation change as prices revert to CAPE historical norms.


US Large Cap

  • Across asset classes higher return potential exists in international and diversifying markets based upon Research Affiliates CAPE based valuation analysis.  The chart below depicts Research Affiliates expected 10 year nominal returns of various international markets compared to its 2.6% annual return expectations for the S&P 500.   Research Affiliates expects international developed markets (EAFE) to return 7.4% annually and emerging markets as a whole to return 9.4% with certain high risk markets like Turkey and Russia in the upper right expected to return more than 12%.  Arnott highlighted the United Kingdom as particularly attractive developed International market from a valuation standpoint with a 10 year expected return of close to 9%.  The market implied Brexit risk premium has made the U.K. market much more attractive than domestic U.S. equities.  
    Arnott suggested that investors balance their return maximization goals with risk relative to more conventional benchmarks (U.S home bias) as they explore the attractive valuations of developed and emerging international markets as a whole and individual country market allocations as risk appetites allow.


RA Expected Returns

  • As the extreme FANMAG valuation might suggest, Arnott sees pockets of value within U.S. and global equities based on various value factors that they monitor (value factors flag cheap stocks rather than momentum factors that chase growth) that they believe offer higher potential forward looking returns.  Based upon Research Affiliates' analysis, the three factors highlighted in green below offer interesting relative value with expected annual returns in excess of 5% - value composite developed markets, value composite U.S., and value composite emerging markets. 
  • Growth factor have been outperforming value factors for a number of consecutive years much like they did prior to the 2000 Dot-com bust and 2008/09 Global Financial Crisis.  Research Affiliates analysis of market history suggest that markets will revert to the mean with value factors outperforming growth factors at some point in the future.  True to form, the domestic markets witnessed a large rotation in fund flows to value factors in September with value outperforming growth by 3.5% for the month.  The market rotation into value and out of momentum and growth has continued through October and into November.


Value Factor


Worth Reading