Hey, get that oily mess out of my money!
This article is highlighted as part of the 100th issue special, celebrating twenty-five years of quarterly newsletters.
Natural Investments has offered fossil-fuel-free portfolios for over a decade. With renewable energy hitting a tipping point and climate change concerns gripping the world, we are proud to have been one of the earliest voices advocating for fossil-fuel divestment.
A rapidly increasing segment of the investment world is coming to the realization that not only is carbon pollution putting our planet’s future at risk, but that the big energy extraction companies are dragging down the returns in their portfolios. Oil is not well on the energy investing front!
The fossil fuel divestment movement is coordinated by Bill McKibben’s 350.org and members of US SIF (The Forum for Sustainable Responsible Investment) to encourage universities, endowments, and family of ces to implement divestment strategies. Divestment is often implemented by selling off (or just not buying) stock in the Carbon Underground 200. CU200 consists of the companies that own the largest untapped reserves of fossil fuels. The idea is that this coal, oil, and gas needs to stay where it is to avert climate catastrophe.
Divestment historically faced fairly stiff headwinds from money managers and trustees. They claimed that univer- sities, foundations, and individual investors would suffer if they forgo investment in coal and oil companies that were once solidly performing stocks. Recent analyses cause us to question those claims. In fact, the new information is being taken to heart by investors. According to GoFossilFree.org, 629 institutions with a total of $3.4 trillion have committed to full or partial divestment, including seventy colleges and universities, 128 foundations, and 111 cities and towns, and they’ve been joined by over 50,000 individual investors.
Divestment probably doesn’t make much of a dent in the wallets of fossil fuel companies, some have asked, so why bother? Yes, but the movement is not naïve to the deep pockets of these companies.
Instead, it has its sights focused on impacting the power and reputation of the fossil fuel industry among decision makers and thereby shaping the politics surrounding energy issues. That’s one of the reasons why Natural Investments portfolios typically have very low exposure to the fossil fuel industry. And when there is a company in a portfolio that has some kind of ties to the fossil fuel industry, our managers are using high impact shareowner advocacy strategies to engage company management and other shareowners in developing plans to make a company report on its climate risk or carbon footprint or to improve their policies about sustainability and human rights. The SRI movement’s efforts have resulted in successful campaigns helping reduce related risks and bolster company performance; most importantly, it’s just the right thing to do.
Divestment’s expected risk and return effects are being studied. A recent analysis by Fossil Free Indexes paints a very interesting picture: if you took the S&P 500 broad U.S. market large cap index and removed companies that are among the Carbon Underground 200, replacing them to maintain a balanced portfolio, the returns increased.
Applying these criteria over the past ten years resulted in approximately an extra 1% per year in returns. This included several years early on when the fossil fuel free approach slightly under performed; in recent years, the divestment did better than that (e.g., more than 2% a year from 2014-16). Of course nobody can accurately predict the future, at least that we’ve met yet, but this kind of analysis could suggest a trend.
Reinforcing these results are two more striking indications that fossil fuel investing may not be all that it is fracked up to be. An analysis by Canadian research company Corporate Knights found that fourteen of the world’s largest institutional investors would have done better over the past three years if they had divested from major fossil fuel holdings and expanded investment in environmentally oriented companies they already own. The fourteen have a collective total of just over one trillion dollars in holdings, a gure that would have been 22 billion dollars (2%) higher had they divested. The Bill and Melinda Gates Foundation was especially hard-hit; it totals about $40 billion and left $1.9 billion (4.6%) on the table by sticking with its fossil fuel holdings.
Meanwhile MSCI, one of the world’s leading providers of nancial indexes, made a simple tweak in its All Country World Index (ACWI), simply dropping 124 companies that have large reserves of oil, gas or coal on their books. The resultant “fossil fuel free” global index outperformed the ACWI in its rst year (gaining 6.5%, versus 4.1%). Tom Kuh, head of ESG indexes for MSCI stressed that “Carbon is increasingly becoming a factor that investors are looking at in understanding risk in their portfolios.” While it appears that fossil fuel divestment can lead to slightly higher volatility (and thus some risk for shorter-term investors), there is a larger concern about the near- and mid-term risk of “stranded assets” among oil and gas companies which are likely to have to write down unrecoverable reserves in the coming years.
These impressive performance results for divestment are in part fueled by the poor nancials of classic energy companies in recent years with prices depressed by oversupply. As Kuh notes, “The challenge for investors is to gure out whether what is going on with energy is cyclical or structural.” At the same time though, Toby Heath of Canadian research rm Corporate Knights observes, “Over the next few years, many oil stocks — if not coal utilities — could jump back, but in the long term, I don’t think a lot of prudent market watchers are betting that the carbon intensive sectors are going to outperform the market in general.”
And that possibly marks a seismic shift for investors. It’s the historic returns seen by these legacy energy companies that have fueled institutional resistance to divestment. “The energy industry of the 21st century is going to look nothing like the fossil fuel industry of the 20th,” said Jamie Henn, communications director at 350.org. “Institutions that don’t change with the times stand to lose big and as this new analysis shows, they already are.”
Holding fossil fuels in a portfolio may no longer confer the advantage that it once did. Recent analysis supports investors of all stripes whom want to clear the oily messes from their portfolios and consider the future of long-term energy and investment.