ESG

Hydrogen Stocks: Unstable, But Potentially Explosive, Too

Green hydrogen is in its relative infancy, making related stocks quite volatile. But long-term investors can use that to their advantage.

The future is clean energy, or so the International Energy Agency (IEA) hopes. The autonomous, Paris-based intergovernmental organization set a goal of a net-zero economy by 2050, meaning that all greenhouse gasses produced by human activity will be negated through reduced emissions and other activities that absorb carbon dioxide.

If there's one thing investors love, it's investing in the future today. And one way to invest in the future of clean energy is hydrogen stocks, which are enjoying increasing attention of late.

Green hydrogen emits no greenhouse gasses when burned, is light and storable, and can be used to power fuel cells, such as those in electric vehicles. 

"(Hydrogen) is enjoying unprecedented momentum around the world and could finally be set on a path to fulfill its longstanding potential as a clean energy solution," writes Fatih Birol, executive director for the IEA, in the agency's 2019 report "The Future of Hydrogen."

But hydrogen as a fuel source is still in its infancy. For would-be investors in hydrogen stocks, that could mean a bumpy ride.

The Future of Hydrogen

"Hydrogen is a natural successor of fossil fuel for energy-intensive industrial processes," says Harlin Singh, head of sustainable investing at Citi Private Bank. It's energy dense, transportable and can be stored across seasons, she says.

In the long term, hydrogen will be particularly important for fueling commercial vehicles and replacing diesel, she says. It can also play an important role in hard-to-decarbonize and energy-intensive sectors such as steel, chemical manufacturing and shipping.

Many nations are trying to pave the way for green hydrogen as a fuel source. The European Union includes hydrogen in its REPowerEU plan. China has a 2035 hydrogen roadmap that details the country's phased approach to developing its domestic hydrogen industry. In the U.S., Democrats tried to push through a tax credit for green hydrogen in the Build Back Better Act; it has stalled, but interest remains in incentivizing the development of a U.S. hydrogen industry.

"We see significant growth potential in the entire value chain of the hydrogen business, from green hydrogen production with renewable energy, electrolyzer technologies such as hydrogen production enablers, hydrogen distribution, and finally end-market uses in transportation, industrial energy and power generation," says Hua Cheng, portfolio manager at Mirova US, the sustainable investing affiliate of Natixis Investment Managers.

But while many believe hydrogen will be crucial to achieving net zero by 2050 and can be expected to grow rapidly over the next several decades, it's still in the early stages.

Cheng sees two key challenges to investing in hydrogen: the cost of green hydrogen, and volatility among hydrogen stocks.

"The cost of green hydrogen has been falling fast over the last decade, but is still higher than traditional energy in general," he says. "The cost is expected to continue to fall and become cost competitive against traditional energy over the next several years, mainly due to the expected lower cost of renewable energy and electrolyzer technology."

Green hydrogen is also "extremely energy inefficient," says Adam Rozencwajg, managing partner at investment firm Goehring & Rozencwajg, noting that 70% of the energy is lost in green hydrogen production.

"How can we possibly transition to an energy storage technology where 70% of the energy is consumed in the storage process itself?" he asks.

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Investors face the additional risk of near-term stock volatility. 

"Hydrogen-linked stock price volatility might be higher than that of the broad market, particularly for pure players that are still in the early stage of their business," Cheng says. "However, this high volatility might offer a good entry point for long-term investors."

Investing in Hydrogen Stocks

Those willing to ride the waves of hydrogen-linked stocks can find opportunity in some of the leading industrial gas and hydrogen companies. 

Without making a judgment on present valuation, Cheng says there are a few ways to approach hydrogen investing. For one, you could invest in companies in the industrial gas business, which are well-positioned to benefit from hydrogen distribution and end-market use. Global leaders in this area include Dividend Aristocrats Linde (LIN, $291.41) and Air Products (APD, $243.13), as well as Air Liquide (AIQUY, $27.47), he says.

Renewable energy utility stocks can also provide indirect exposure to hydrogen investing. Cheng points to Orsted (DNNGY, $34.79) and NextEra Energy (NEE, $76.00) as two potential options in this area.

Another approach is to invest in a pure-play company such as Plug Power (PLUG, $16.35), which is a U.S.-based green hydrogen and fuel cell solution provider. Plug Power is an interesting holding for the long run "as it has an integrated business model from generation to distribution to end-market applications, with broad business opportunities from transportation, industry and power generation," Cheng says.

Hydrogen energy is in its infancy, however, which can make picking individual winners difficult, says Peter Krull, CEO of investment firm Earth Equity Advisors. Because of this, he prefers to use exchange-traded funds (ETFs) – which can hold dozens or hundreds of hydrogen stocks – such as the Defiance Next Gen H2 ETF (HDRO, $11.13).

HDRO tracks the BlueStar Hydrogen & NextGen Fuel Cell Index, which includes companies engaged in hydrogen-based energy development and fuel cell technologies around the globe. Top holdings include California-based Bloom Energy (BE), Oslo-based Nel (NLLSF) and the aforementioned Plug Power.

"(HDRO) is global in scope which gives investors access to both domestic and international companies," Krull says. "Right now, the market in Europe looks to be moving faster than here in the U.S., so having that global exposure could be an advantage."

Be aware, however, that HDRO debuted just last year and is still a smaller ETF, with only $42 million in assets and an average daily trading volume of around 58,000 shares. So while it will provide lower risk compared to buying individual hydrogen stocks, it's not a terribly liquid fund; depending on when you sell, it might be difficult to get the exact price you're trying to sell at. Thus, HDRO should primarily be considered for buy-and-hold purposes.

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