On the front page of the GreenUniverse.co.uk Daily on 11 May 2022
"Volatile interest rate markets at least until the end of the year"
Interview with Emmanuel Weyd, Director of Credit Investments at Eiffel Investment Group
In the space of a few months, the financial environment for energy transition has changed: inflation and rising interest rates are back.
For how long?
What impact will this have on the financing of renewable energy projects?
The indications of the Director of Credit Investments of Eiffel Investment Group, a major investor in the sector, particularly in loans for the construction of installations.
GreenUniverse: Inflation has reached 5% in France and 7% in Europe, record levels for 40 years. Can you remind us of the reasons for this?
Emmanuel Weyd: It is due to the rise in raw materials and energy prices, to the congestion and even the breakdown of supply chains, which increases the cost of transport, among other things. In addition, there are constraints on the labour market, with unemployment rates at their lowest on both sides.
unemployment rates are at their lowest on both sides of the Atlantic.
GU: Is this going to last?
EW: Expectations are converging that inflation will come down by the end of the year, but not back to its previous level. At over 3%, we will be in a different environment from the last decade anyway.
GU: What is fundamentally changing?
EW: The real issue is the inflationary cycle. Inflation expectations are changing and with them consumption and investment behaviour. Until now, central banks have maintained an optimal level of inflation so that economic agents don't think about this phenomenon when they make their decisions. This is no longer the case.
GU: Which brings us to the evolution of interest rates...
EW: Things change quickly. The German 10-year bond was negative 0.5% six months ago, it is now above 1%. But at 5% inflation, the investor is still losing 4% a year. The US 10-year bond has just fallen from 3% to 3.10%. That said, in my view, the important thing is not so much the rise in rates as the volatility of the rates markets, an uncertainty that is likely to persist at least until the end of the year.
"A consensus on rates only seems likely to emerge next year
GU: What exactly is the reason for this uncertainty?
EW: There is no market consensus on the level of rates, on their landing point and not on the key rates of the Central Banks either. Such a consensus only seems likely to emerge next year. But nobody knows how high. On the other hand, it seems likely that real interest rates will remain negative, i.e. nominal rates below inflation.
GU: What are the consequences for RE?
EW: The demand for investment does not change. In fact, it is reinforced by energy price variations and the protection provided by the RE business model. The second consequence is also positive: power plants are real and long-term assets, as opposed to financial assets. In addition, they provide a commodity, energy. These real and useful assets represent a natural hedge against inflation. The real danger may lie in long-term, price-regulated purchase contracts, but these are usually indexed to inflation.
"The cost of financing new RE assets will make existing ones more attractive
The result is that for the moment, credit margins have not recovered much in RE. That said, it is likely that debt will start to cost more, as how can we imagine this risky borrowing being on a par with the best government bonds? Even if there is no consensus on the levels to be considered, the cost of financing new RE assets is likely to increase, making existing assets more attractive.
GU: Will the financing of projects obtained in previous tenders under the new borrowing conditions become problematic?
EW: For the developer, if the terms and conditions of his financing are already fixed, there is no problem... For the lender, his debt will be less profitable than it would have been if it had been calculated today, but he benefits from good quality collateral whose value may have increased. For the shareholder, once the asset has been financed and entered into service, the interest will depend on the difference between the expected increase in his income due to the indexation of tariffs to inflation or the increase in the market price of electricity and the increase in the discount rate of future cash flows due to the increase in rates.