Global warming — and the more frequent occurrences of extreme weather that comes with it — are creating the next hot (pardon the pun) investment trend.

And, surprisingly, this investment opportunity doesn’t have anything to do with alternative green energy sources.

Sure, alternative energy is a noble idea, but its success is owed to government subsidies and political pressure. 

#-ad_banner-#That’s precisely why the Street has lost interest in green energy and so-called clean tech stocks. Venture capital and private equity investments in wind farms, tidal energy and other green energy projects sank by 34% in 2012 to just under $6 billion compared with the previous year. 

This is despite the fact that global warming is definitely showing its face. In 2012 alone, more than 3,500 monthly weather records were broken in the United States, according to the National Climatic Data Center. It was also the warmest year ever recorded.

Clearly, efforts to improve clean energy production and diminish greenhouse gas emissions — the main cause of global warming — have brought about very little if any positive change. 

This is what’s leading some profit-hungry hedge funds to turn their environmental investments away from alternative energy and green technology stocks. They are now focusing on companies that can manage the effects of climate change.

Companies that manage water rights, treat water and that even trade and assess weather derivatives (financial instruments used by companies to reduce the risks associated with weather losses) are now the hot interest of these hedge funds. 

Supporting this investment thesis, the United Nations estimates that infrastructure and technology costs to manage the effects of climate change will surge to a whopping $130 billion per year by 2030.   

And as our planet steadily warms, demand for fresh drinking water is expected to increase substantially. Consumption of fresh water has tripled in the past 50 years, according to the United Nations, and with the global population expected to reach at least 10 billion by 2050, demand for fresh water will likely skyrocket, according to the U.N.

Combine that with a supply decrease caused by droughts and changes in weather patterns, and it creates a huge investment opportunity in water stocks.  

Analysts at Bank of America Merrill Lynch have already turned  bullish on water. “We are bullish on water due to the global water crisis with a billion people lacking access to clean water; there is pressure on both the supply and demand side.”

And although it’s difficult for individual investors to invest in water rights or weather derivatives, it’s easy to have access to stocks involved in water rights, treatment and production.  

As with most investments, diversification within a theme is the safest way to profit. This means exchange-traded funds (ETFs) are the best way to gain exposure to the burgeoning water market while eliminating single-company risk factors.

Here’s my favorite water-based ETF… 

PowerShares Water Resources Portfolio (NYSE: PHO)
This ETF has more than $200 million in assets and tracks the Nasdaq QMX US Water Index. It is mandated to invest 90% of its holdings in companies that create products designed to conserve and purify water for home and business use. The ETF has been in a solid uptrend since mid-November 2012, but has recently pulled back to the $19 range. This pullback creates a buying opportunity with stops at $18.50. I wouldn’t be surprised to see this ETF at $25 within the year.  

And if you want to take on the winning potential of an individual stock, then this one will likely be sitting on huge profits as climate change continues…

PICO Holdings (Nasdaq: PICO)
This company holds water rights, water storage and real estate in the arid southwestern United States. I’ll be the first to tell you the balance sheet does not look healthy for this company. But there is a good reason for this.

While PICO has been losing money in all but its real estate development operations, it has acquired significant assets in the arena of water storage and water rights. I see this firm as a long-term speculative investment based on its water rights and storage portfolio. Right now it is focused on acquiring assets for the future — hence the negative balance sheet. 

However, if global warming and climate changes continue, then these assets will become very lucrative. If you are an investor with a very long-term perspective and willing to take a chance on accelerated climate change rapidly creating water issues, then this company is for you. Buying on a momentum break-out makes the most sense.

Risks to Consider: The water ETF should continue to prosper regardless of what happens with global warming and climate change. But there are no guarantees in investing. Still, It’s diversified enough to continue to rake in profits from the current operations of its component companies. However, the individual firm PICO, while surviving on its real estate ventures, is deeply entrenched in water rights. That means it is suitable  for ultra long-term speculation at this time, despite the present bounce higher.

Action to Take –> PHO is a “buy” right now as a play on the bull market in water and the expected water crisis that will result from global warming. For investors who can stomach a little more risk, PICO Holdings should be on their watch list for possible breakouts on the upside. Always use stops and position size properly when investing.

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