The news: US-listed Chinese solar companies recorded substantial gains in trading Tuesday, led by JA Solar Holdings and Suntech Power Holdings.
The significance: As was the case in February when CER Alpha last addressed Chinese solar stocks, the sector is in the midst of a protracted down cycle. Oversupply is holding down prices and leading many companies to record losses, a situation that's unlikely to change unless some solar firms close or consolidate. With the decreasing importance of proprietary technology, the industry is growing increasingly commoditized with high volumes and low margins, in China even more so than in the West. The solar firms that are most likely to succeed will have the least in-house production of basic components and instead focus efforts further downstream in the solar panel supply chain. Outsourcing the upstream production will allow firms to seek out the lowest prices and arbitrage small differences between suppliers. Previously recommended Trina Solar is one company that appears positioned to do this. Meanwhile, companies like Suntech, which produces roughly two-thirds of its solar wafers in-house, are at a disadvantage.
The takeaway: Investors might consider selling or shorting Chinese solar companies that produce much of their basic components in-house, such as Suntech Power Holdings (STP.NYSE, S9H.FRA) and Yingli Green Energy Holdings (YGE.NYSE, YG11.FRA). We remain positive long term on Trina Solar (TSL.NYSE, TR3.FRA), which will likely be well-positioned once the industry rights itself.