Green Chip Stocks

DEFINITION of 'Green Chip Stocks'

Shares of companies whose primary business is beneficial to the environment. Green chip stocks are generally likely to be concentrated in areas such as alternative energy, pollution control, carbon abatement and recycling. While the term is derived from “blue chip,” which refers to a stock that is an industry leader and consistently profitable, a typical green chip may have profitability challenges and a financial structure that is less stable than that of a blue chip. But despite these issues, green chip stocks attract significant interest from investors who are attracted to their “green” proposition and potential to be future market leaders in an increasingly environment-conscious world.

BREAKING DOWN 'Green Chip Stocks'

Green chip stocks are typically more volatile than the broad market. Although investors are usually willing to overlook their high valuations and financial limitations during bull markets, they are less willing to do so during bear markets and recessions.

The outlook for green chip stocks is also affected by the level of government subsidies and support available to them and/or to users of their end products. While higher subsidy levels can boost these stocks, reduced government subsidies can have an adverse impact on them.

For example, alternative energy stocks were among the best performers in the latter part of the 2003-07 global bull market, as the search for other energy sources assumed greater importance in an environment of triple-digit crude oil. But these stocks had a sudden reversal of fortune in the 2008 bear market, as investors exited them in droves due to uncertainty about the global recession and the collapse in conventional energy prices.

Solar power companies, a major sub-sector in the alternative energy space, were among the hardest hit, as the recession in Europe forced cash-strapped governments to cut back the level of subsidies offered to these companies. Spain, for example, accounted for half of the world’s new solar power installation in terms of wattage in 2008, primarily due to generous government subsidies designed to promote clean energy. But Spain’s worsening financial situation from 2009 onward led the government to severely curtail subsidies available for clean energy. As the nation’s market for solar power contracted significantly from its 2008 peak, manufacturers of solar panels and other components – which had ramped up production in anticipation of higher demand – were stuck with huge amounts of excess inventory, leading to a substantial decline in prices.

The growing popularity of green chip stocks has resulted in an increasing number of mutual funds and exchange traded funds that only hold green investments. Despite the growing number of alternatives available for investing in green chips, investors should ensure they understand the risks involved before plunging into this potentially rewarding but volatile sector.