Lights Out For Solar ETFs As Oil Continues Plunge

by on May 15, 2010 | ETFs Mentioned:

Just a few short months ago, oil was approaching $90 a barrel and many were forecasting a run well above the psychologically-important $100 level. However, this optimism proved to be short lived, as equity markets around the world saw shares plunge after trouble in Europe threatened to spill over and contaminate the global economy. With concerns over global economic activity growing, the price of oil has been plunging from its 2010 high and is now closing in on $70/bbl. In fact, the iPath S&P GSCI Crude Oil Total Return Index ETN (OIL), which tracks the price of West Texas crude oil, is down almost 18.2% over the past four weeks, demonstrating just how much faith investors have lost in the global economy’s prospects for growth.

While consumers may be relieved to see sharply lower gas prices in the near future, one sector that has been negatively impacted by the fall in the price of oil has been the solar industry. The two main ETFs tracking solar stocks are both down more than 30% this year and have posted terrible returns over the past four weeks. The Market Vectors Solar Energy ETF (KWT) is down 21.9% over the past four weeks while the Claymore/MAC Global Solar Energy Index ETF (TAN) has posted a loss of 21.8% during the same time period (for more information on alternative energy ETFs, make sure to read our Definitive Guide To Clean Energy ETFs).

Solar: Dependent On Oil

When the price of oil drops, the demand for alternative power sources such as solar power, drops as well. This happens because at the moment solar power and virtually all other alternative fuel sources cannot compete with coal and oil on a cost-per-kilowatt basis. Currently, solar power can be produced for roughly 15 cents/kW while  gas and coal power comes in around 4-5 cents/kW. When traditional fossil fuel prices rise, alternative energy becomes more competitive from a cost perspective, especially when generous government subsidies are thrown in to help balance the playing field.

The recent economic turmoil across the pond has had an adverse impact on solar ETFs for another reason. European governments have historically given generous subsidies to solar providers, hoping to gain an edge in the clean energy race. With budgets under unprecedented pressure, however, many of these arrangements have been scaled back or cut altogether, knocking away one of the crutches upon which the still-nascent solar power energy had come to rely.

Should oil continue its slide look for solar stocks to fall further and continue as the worst performers in our Energy ETFdb Category. If however, oil prices resume their ascent higher, solar ETFs such as KWT and TAN could make for an interesting contrarian investment (also see Five ETF Plays For Climate Change Legislation).

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Disclosure: No positions at time of writing.