SMOG ETF: A Well-Diversified Bet On The Energy Transition

The VanEck Vectors Low Carbon Energy ETF (NYSEARCA:SMOG) (the “Fund”) seeks to replicate as closely as possible, before fees and expenses, the price and yield performance of the MVIS Global Low Carbon Energy Index (MVSMOGTR) (the “Index”).

The Index is a rules-based index intended to track the overall performance of renewable energy companies which may include but is not limited to: wind, solar, hydro, hydrogen, bio-fuel or geothermal technology, lithium-ion batteries, electric vehicles and related equipment, waste-to-energy production, smart grid technologies, or building or industrial materials that reduce carbon emissions or energy consumption,” according to the VanEck site.

Investors cannot directly buy an index. The Fund was created to provide a financial product in which investors may participate in the returns of the Index.

Background

Support for the transition to low carbon (“clean”) energy is underpinned by The Paris Agreement, the Biden Administration and long-term projections by the U.S. Energy Information Administration (“EIA”), a report by BNP Paribas Asset Management and a prediction by Larry Fink, CEO of BlackRock (BLK).

The Paris Agreement was adopted by 196 Parties in Paris, in December 2015 and entered into in November 2016.

The Paris Agreement is a legally binding international treaty on climate change. Its goal is to limit global warming to well below 2, preferably to 1.5 degrees Celsius, compared to pre-industrial levels. To achieve this long-term temperature goal, countries aim to reach global peaking of greenhouse gas emissions as soon as possible to achieve a climate neutral world by mid-century.”

In a White House “Fact Sheet” dated April 22, 2021, the Biden Administration announced a new target of achieving a 50% reduction in greenhouse gas pollution by 2030 and net-zero greenhouse gas emissions by no later than 2050. The following six sub-goals or strategies were set to support reaching those goals:

In its 2022 Annual Energy Outlook, the EIA made the following projections:

BNP Paribas Asset Management wrote a report in 2019, which included the following conclusions:

Finally, in a letter to CEOs, BlackRock CEO Larry Fink wrote, “Climate risk is investment risk.” He also observed, “In the near future – and sooner than most anticipate – there will be a significant reallocation of capital.”

MVIS® Global Low Carbon Energy Index

The MVIS® Global Low Carbon Energy Index (MVSMOG) tracks the performance of the largest and most liquid companies in the global low carbon energy industry. This is a modified market cap-weighted index, and only includes companies that generate at least 50% of their revenue from renewable sources of energy, the development of related technologies, or sustainable building products that reduce energy consumption. MVSMOG covers at least 95% of the investable universe,” according to MarketVector.

The Index has an international scope and is diversified among a number of sectors. The largest country weight is the United States, and the largest sector weight is Utilities. The detailed weights are specified below.

The components of the Index are also distributed among large cap, medium cap and small cap corporations as listed below.

The top 10 largest holdings of the index are:

Expense Ratio

SMOG charges a 0.55% Expense Ratio and has about $244 million of Assets Under Management (“AUM”).

Seeking Alpha has given SMOG a “C-” grade for its Expense Ratio,

Performance

Over the past 10 years, SMOG has returned 322.38 %. That return has exceeded the return of the S&P 500 (SP500TR) of 230.27 % over the same period. The largest outperformance came in anticipation of a fundamental shift in U.S. policies around the 2020 U.S. presidential election.

Over the past year, SMOG lost 22.57% of its value when SP500TR lost 12.22%. The companies in the Index were affected by the downturn in the equity markets.

Conclusions

The thesis of SMOG is strongly supported by the worldwide transition to low-carbon energy production. However, this is a long-term trend which is subject to equity market risks in the short term.

The Index is well-diversified and includes corporations at just about every stage of technological development. The Index is also not a bet on any one solution but rather a bet across the entire spectrum. It would not be easy for individual investors to construct a portfolio such as SMOG’s.

For long-term investors, the Fund should outperform the broader equity market, and its thesis is fundamentally strong. For those reasons, I believe it is a long-term “Hold.”