The Senate Democrats' Inflation Reduction Act of 2022 introduced in late July aims to accelerate consumer adoption of solar energy, but it will also ramp up the solar-related asset-based securities (ABS) market that has grown in recent years despite the dwindling tax benefits currently in place.
The bill seeks to provide tax credits supporting U.S. manufacturing of solar panels and other renewable energy hardware as well as consumers' acquisition of solar rooftop systems over a 10-year stretch.
The U.S. solar industry has made significant strides in recent years, and the related ABS market should continue under its own momentum, providing investors with attractive returns and less risk than bonds backed by other types of consumer debt, according to industry professionals speaking in an industry event earlier in July.
The professionals discussed the solar asset-backed-securities (ABS) market's developments and prospects on July 17 at the Structured Finance Association's SFVegas 2022 conference in Las Vegas, just 10 days before Senate Democrats introduced to solar-industry friendly proposal. The legislation may still face obstacles in the Senate and the House of Representatives.
Backup power plans
The current investment tax credit afforded to consumers provides a 26% tax credit for solar-panel systems installed through this year, falling to 22% for those installed in 2023. The Solar Investment Tax Credit (ITC) expires starting in 2024 unless Congress renews it.
Even if the tax incentives disappear, growth in solar adoption is likely to continue, said Thibault Webanck, director of securitization for Crédit Agricole Securities, at the conference. He added that two main factors will drive that growth: the plummeting cost in recent years of solar panels and related equipment, and the introduction of net metering, which credits consumers for the renewable energy they add to the electrical grid.
"I'm going to be buying electricity cheaper than what I'm paying now on my utility bill," Webanck said, and that dynamic should reduce the likelihood of consumer defaults, since defaulting would shift the consumer to purchasing higher cost electricity from the utility.
Some 550,000 households installed solar capacity in 2021, almost double from the 300,000 in 2018, when there was a moderate dip in adoption, according to data presented at the conference. At the end of 2021, nearly 4% of U.S. electricity came from solar energy. Such growth has resulted in more than $15 billion in solar ABS since 2013.
Deals this year include a more than $400 million ABS transaction by Luminace, a division of Brookfield Renewable. It priced in mid-May for spreads of 205 basis points on the A- tranche and 320 basis points on the BBB- portion, according to Finsight.
A $521 million deal by Sunrun Solar priced the month before for a spread of 215 basis points on a lone A- tranche, according to Finsight, and both deals priced at the lower end of guidance, and Credit Suisse was the structuring lead.
Reviewing the case for investing in solar ABS, John D'Elisa, head of U.S. ABS and CMBS securitization structuring and analytics at Société Générale, highlighted consumers' lower payments on solar loans than they would otherwise pay on monthly electric utility bills.
"Borrowers are faced with deciding whether they want to pay higher utility costs or try to make good on this loan," D'Elisa said at the SFA conference. He added, "It's an interesting phenomenon that I haven't seen in many other asset classes, because it is providing savings to the consumer."
Solar ABS still accounts for a tiny portion of the overall ABS market, but several new issuers focused on residential solar entered the market between 2017 and 2019, resulting in a pipeline of deals to be issued across a range of ratings.
Investors are "going to have the opportunity to build a book and get some diversification from that perspective," Webanck said.
Solar ABS hold other fundamentals that are attractive to investors. Solar-panel loans are made to homeowners with historically high average FICO scores, and the collateral is highly diversified by geography, utilities and installers. Eugene Belostotsky, director of ABS strategy for Citi Research, said FICO scores hover in the 740 range, compared to scores for unsecured consumer debt averaging closer to 700.
Investors are seeking wider spreads this year in line with other ABS markets, given the volatile macro environment. Senior A-rated tranches have doubled to 200 basis points and BBB tranches are now in the low 300 basis points, Belostotsky said, but coupons on the underlying loans have remained stable, reflecting the strength of the collateral.
"The cost of capital has increased, obviously, but the coupon rate on the loans has not been going up" and has remained at around 2.5%, Belostotsky said. Deals use a so-called yield supplemental overcollateralization amount that converts principal to interest to ensure sufficient cash flow each month to pay the cost of funding.
Solar expands its customer grid
In terms of solar ABS market growth, some issuers are seeking to expand their origination criteria to include borrowers with lower FICO scores and offer separate issuance programs or types of ABS, D'Elisa said.
The Inflation Reduction Act could fuel adoption of solar panels in disadvantaged and low-income communities by providing additional tax incentives.
A risk to solar ABS, Belostotsky said, is that the solar loans backing the bulk of solar-related securitizations have a short data history. The loans typically have maturities of 25 years, but only three to five years' worth of data is currently available.
"So far we haven't seen any vintage that has matured, which presents difficulty for the rating agencies and investors to analyze the collateral," Belostotsky said.
Another solar ABS risk, according to the panel, is that homeowners may not be satisfied by their solar product and selectively choose to default on loans if the underlying equipment is not performing as expected. Focusing on the experience of the originator and their selection and monitoring of their installers is key, the panel noted, to ensure they use experienced installers and top-grade equipment.
