The Yieldco Virtuous Cycle

Finally, Brookfield Renewable Energy Partners (BEP) is a pure clean energy Yieldco which has seen massive price appreciation over the last six months, and trades at low (2.7%) yield.  But compared to other highly priced Yieldcos, BEP has an advantage for raising money in secondary offerings.  It has a second type of share in Brookfield Renewable Energy Corporation (BEPC), which is even more highly valued than BEP.  While BEP and BEPC pay the same per-share dividend, BEPC shares ended 2020 at $58.27, a 35% premium compared to BEP which closed at $43.15. With this price differential, Brookfield Renewable can issue new BEPC shares and use the funds to invest in clean energy projects which will benefit both share classes equally.  Alternatively, the company could sell ten million BEPC shares, buy ten million BEP units, and instantly have an extra $150 million to invest without increasing the total number of shares outstanding.  For this reason, I expect the company to issue many new BEPC shares in 2020, with the benefit accruing to both classes of share equally.  Over time, this will erode the large premium of BEPC shares over BEP units.

Hedging BEP with BEPC

The safest way to bet that the premium of BEPC over BEP will narrow would be a long-short hedge, buying BEP and selling an equal dollar amount of BEPC short.  For every 100 shares of BEP purchased (for $4315), the investor would also sell $4315/$58.27 = 74 shares of BEPC short. This long-short hedge would only change in value if the price premium changed, but the investor would collect approximately $116 in dividend on BEP, while only paying $86 in dividends on the short BEPC shares. Meanwhile, each 10% decrease in the premium would lead to a 10% ($431) gain, while each 10% increase in the premium would lead to a 10% loss.

Unfortunately, there are many hedge funds that follow absolute return strategies like the one I have outlined above, and their demand for BEPC shares to sell short will lead to additional fees for anyone trying to sell BEPC short. 

Another option for a partial hedge for BEP shares using BEPC would be to sell call options on BEPC. For this, I would use the longest-dated call options available with a strike price just above the current market price.  In this case, that is the call option to buy 100 shares of BEPC at $60 at any time before June 18, 2021, or BEPC 6/18/21 $60 Call. Selling one such contract would be a hedge against small declines of 135 shares of BEP.  While I was initially thinking I would include a hedge like this in the model portfolio, the requirement that the BEP position to be at least 135 shares (or $5800) to work means that in order to follow the model portfolio, a reader would have to invest at least $5800 in each of the 10 stocks, or $58,000 total.  Since I want this strategy to be accessible to readers with only $10,000 or so to invest, I will include BEP in the portfolio without a hedge.

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Disclosure: Long CVA, GPP, AGR, BEP, BEPC. Short calls on BEPC.

Disclaimer: Past performance is not a guarantee or a reliable indicator of future results.  This ...

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