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Is it right to invest in an FFFF (Fossil Fuel Free Fund)?

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With the arguments against investment in fossil fuel companies mounting, Clare Brook, founding partner at WHEB Listed Equities, asks if going fossil fuel free is simply the right thing to do.

When the American environmentalist, Bill McKibben, published his article ‘Climate change’s terrifying new math’ in Rolling Stone magazine in 2012, it catalysed a new phase in the movement to combat climate change. As McKibben said in his important article, “The anti-climate change movement needs an enemy. And that enemy is the fossil fuel companies.”

By focusing on oil, gas and coal extraction companies, the debate has shifted from being a purely political one to being a discussion around the deployment of capital.

Much of McKibben’s article focuses on work carried out by the UK-based Carbon Tracker Initiative.

Carbon Tracker’s argument runs as follows: Consensus scientific reports assert that in order to prevent dangerous climate change, which most scientists agree would be caused by a rise in global temperatures of over 2%, the amount of carbon dioxide in the atmosphere must be kept below 350 parts per million.

The current price of fossil fuels companies’ shares is based on the assumption that all fossil fuel reserves in the world will be utilised. However, only 565 billion tonnes of CO2 can be burned by 2050 in order have a reasonable chance of staying within the two degree warming limit, versus the 2,795 billion tonnes represented by all oil, gas and coal reserves in the ground.

Therefore, argues Bill McKibben, in order to sustain human life on the planet, up to $20 trillion-worth of fossil fuel reserves will need to remain in the ground.  This could render fossil fuel assets ‘stranded’ and potentially worthless, or at least at a substantial discount to valuations placed on major oil companies’ reserves currently.

Not only are existing reserves at risk, but these companies are spending an estimated $490 billion (£290.2bn) a year on capital expenditure attempting to discover new reserves and add to their base.

How pressure can be brought to bear for these assets to be left in the ground, and for fossil fuel companies to deploy their capital expenditure more wisely, is now the subject of hotly contested debate.

Some argue that the best way to apply pressure is for institutional investors to sell their holdings in fossil fuel companies. Already, an impressive number of charities, foundations, churches and universities, have announced their intention to divest from fossil fuels, most notably the Divest-Invest group. Municipal and state pension funds are starting to join them.

An interesting recent addition to the throng is the British Medical Association (BMA).  The logic of these decisions is compelling: for charities whose purpose is, broadly speaking, to protect the environment and human society, to be investing in companies whose purpose is to burn as many fossil fuels as possible is an obvious contradiction.

The BMA, for instance, sees climate change as an issue that will have a profound impact on public health. Meanwhile, some church groups are emphasising the ethics of climate change and the need to avoid fossil fuel investments as a result.

The argument in favour of divestment is essentially one of spotting an innate contradiction: that if investors are holding shares for the long term – for example, a pension fund investing so that people can ‘enjoy their retirement’, a foundation enabling a charity to carry out vital work, people buying a junior ISA for their children, universities providing students with degrees so they can flourish in the world – then it is contradictory to hold assets in companies whose core businesses threaten the world into which people hope to retire, or grow up, or work in a few decades’ time.

Furthermore, the expectation is that concerted selling of fossil fuel assets by high-profile organisations will bring pressure to bear on the coal, oil and gas companies where hitherto campaigners have failed.

Some in the divestment camp argue that those companies will find it increasingly difficult to command a licence to operate, to recruit and retain high quality employees, to raise debt, develop new territories and expand.

Even if the upshot is less extreme in the short or medium term, the expectation is that concerted divestment will sharpen the focus on those companies directly responsible for climate change and force them to justify their strategy and impact far more than they have hitherto.

Already Shell and Exxon have issued statements explaining why they think their reserves are not ‘stranded’.  Now that managements are responding, they will no longer be able to ignore the debate in the future.

Those who are against divestment point out that divestment in isolation may not have the effect that it had with, for example, the Anti-Apartheid Movement. Then it was relatively easy to isolate a few companies who were invested in South Africa, such as Barclays, to close one’s bank account in protest, or avoid buying South African wine or fruit.

Fossil fuel usage is more invidious. Let he who never drives a petrol-powered car or uses plastic or turns on a light cast the first stone.

Without concerted political action that forces fossil fuel companies to pay for the external and future costs associated with burning their product, divestment by some asset owners may stir up debate, but not on its own bring about the quantum change in business models necessary to keep global temperatures within a two degree rise.

To date, much of the commentary around divestment has focused on the negatives: ‘what is the impact on the performance of a portfolio if one strips out oil, gas and coal companies?’ (Answer: historically negligible.)  ‘What is the impact on the yield of a portfolio?’ (Answer: a little more meaningful).

Again, opinion and statistics differ. For example, Cambridge Associates, in its report ‘Fossil Fuel Divestment’ states, “Global energy stocks, which are largely fossil fuel companies, account for 10% of global equity market capitalization today. Historical analysis shows that their performance is cyclical and has been additive to the global equity index over the long term, both in absolute and risk-adjusted terms7.”

By contrast, Impax Asset Management in its white paper ‘Beyond Fossil Fuels: The Investment Case for Fossil Fuel Divestment’ shows that over a five year period to 30 April 2013 the MSCI World Index with the fossil fuel sector stripped out would have out-performed the MSCI World Index with it left in.

Furthermore, if one substitutes energy efficiency and alternative energy companies for the fossil fuel sector removed, performance is further enhanced.

Aside from Impax, it seems, there has been little focus on the corollary of divestment, which must be investment, or what to put in the place of fossil fuel assets in a balanced portfolio. If investment in fossil fuels is both contradictory for any asset owners who are positioning their investments for the long-term future, and potentially high risk if those assets are structurally over-valued and potentially ‘stranded’ assets, then what should replace those investments in a long-term portfolio?

At WHEB, we contest that sectors involved in reducing global CO2 emissions and providing solutions to climate change, and other sustainability challenges, are likely to have a concomitantly higher growth trajectory, and thus valuation, than is currently being assumed by the market.

Companies involved in clean energy and resource efficiency are among the alternatives for a long-term investor who not only wants to ensure that their portfolio is ‘fossil fuel free’, but that it is instead invested in the solutions, in those companies whose growth will make a positive contribution to society.

As the Cambridge Associates’ report puts it, “the consideration of divestment requests can be a catalyst for investors to begin a careful evaluation of the growing opportunity set of more environmentally sustainable investment strategies.”

It is important to distinguish genuinely fossil fuel free funds from the broader range of socially responsible and ethical funds. Some SRI and ethical funds include natural gas, or even oil and gas and mining companies, in their portfolios.

At WHEB we take a firmer line: To be absolutely clear, the FP WHEB Sustainability Fund has no investment in companies whose core business is the extraction or combustion of fossil fuels.

If such a label were available, we could receive the FFFF (fossil fuel free fund) seal of approval. Instead of exposure to coal, oil or gas, the WHEB fund is exposed to the following sectors.

Energy efficiency

Cleaner (or alternative) energy

Sustainable transport

Environmental services

Water management

Health

Well-being

Safety

Education

While past performance is no guide to future performance, the outlook for fossil fuel companies would appear to be subject to risk, which we feel is not yet priced by the stock market.

Meanwhile, we believe the outlook for energy efficiency, clean energy, sustainable transport and alternative energy has never looked more attractive.

Until now, the performance impact of holding fossil fuel companies in an index-tracking portfolio has been relatively insignificant. As and when concerted action around climate change gets underway, then the impact of owning companies with ‘stranded’ assets could become much more significant.

For trustees of long-term investment vehicles, the imperative is to question the need to hold fossil fuels as an investment has never been so pressing.

Clare Brook is a founding partner at WHEB Asset Management.

Photo: Kiril Havezov via Free Images

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Further reading:

New ‘fossil free’ investment index boosts divestment movement

Desmond Tutu calls on South African university to divest from fossil fuels

Divestment: over 300 churches vote to end fossil fuels investment

IPCC report proves fossil fuel investors are ‘wrecking our future’

Climate change: we’ve still got time to save the world… haven’t we?

Articles, features and comment from WHEB Group, an independent investment management firm specialising in opportunities created by the global transition to more sustainable, resource efficient economies. Posts are either original or previously featured on WHEB's blog or in its magazine, WHEB Quarterly.

Energy

Responsible Energy Investments Could Solve Retirement Funding Crisis

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Energy Investments
Shutterstock / By Sergey Nivens | https://www.shutterstock.com/g/nivens

Retiring baby-boomers are facing a retirement cliff, at the same time as mother nature unleashes her fury with devastating storms tied to the impact of global warming. There could be a unique solution to the challenges associated with climate change – investments in clean energy from retirement funds.

Financial savings play a very important role in everyone’s life and one must start planning for it as soon as possible. It’s shocking how quickly seniors can burn through their nest egg – leaving many wondering, “How long your retirement savings will last?

Let’s take a closer look at how seniors can take baby steps on the path to retiring with dignity, while helping to clean up our environment.

Tip #1: Focus & Determination

Like in other work, it is very important to focus and be determined. If retirement is around the corner, then make sure to start putting some money away for retirement. No one can ever achieve anything without dedication and focus – whether it’s saving the planet, or saving for retirement.

Tip #2: Minimize Spending

One of the most important things that you need to do is to minimize your expenditures. Reducing consumption is good for the planet too!

Tip #3: Visualize Your Goal

You can achieve more if you have a clearly defined goal in life. This about how your money can be used to better the planet – imagine cleaner air, water and a healthier environment to leave to your grandchildren.

Investing in Clean Energy

One of the hottest and most popular industries for investment today is the energy market – the trading of energy commodities. Clean energy commodities are traded alongside dirty energy supplies. You might be surprised to learn that clean energy is becoming much more competitive.

With green biz becoming more popular, it is quickly becoming a powerful tool for diversified retirement investing.

The Future of Green Biz

As far as the future is concerned, energy businesses are going to continue getting bigger and better. There are many leading energy companies in the market that already have very high stock prices, yet people are continuing to investing in them.

Green initiatives are impacting every industry. Go Green campaigns are a PR staple of every modern brand. For the energy-sector in the US, solar energy investments are considered to be the most accessible form of clean energy investment. Though investing in any energy business comes with some risks, the demand for energy isn’t going anywhere.

In conclusion, if you want to start saving for your retirement, then clean energy stocks and commodity trading are some of the best options for wallets and the planet. Investing in clean energy products, like solar power, is a more long-term investment. It’s quite stable and comes with a significant profit margin. And it’s amazing for the planet!

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Energy

What Should We Make of The Clean Growth Strategy?

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Clean Growth Strategy for green energy
Shutterstock Licensed Photo - By sdecoret | https://www.shutterstock.com/g/sdecoret

It was hardly surprising the Clean Growth Strategy (CGS) was much anticipated by industry and environmentalists. After all, its publication was pushed back a couple of times. But with the document now in the public domain, and the Government having run a consultation on its content, what ultimately should we make of what’s perhaps one of the most important publications to come out of the Department for Business, Energy and the Industrial Strategy (BEIS) in the past 12 months?

The starting point, inevitably, is to decide what the document is and isn’t. It is, certainly, a lengthy and considered direction-setter – not just for the Government, but for business and industry, and indeed for consumers. While much of the content was favourably received in terms of highlighting ways to ensure clean growth, critics – not unjustifiably – suggested it was long on pages but short on detailed and finite policy commitments, accompanied by clear timeframes for action.

A Strategy, Instead of a Plan

But should we really be surprised? The answer, in all honesty, is probably not really. BEIS ministers had made no secret of the fact they would be publishing a ‘strategy’ as opposed to a ‘plan,’ and that gave every indication the CGS would set a direction of travel and be largely aspirational. The Government had consulted on its content, and will likely respond to the consultation during the course of 2018. And that’s when we might see more defined policy commitments and timeframes from action.

The second criticism one might level at the CGS is that indicated the use of ‘flexibilities’ to achieve targets set in the carbon budgets – essentially using past results to offset more recent failings to keep pace with emissions targets. Claire Perry has since appeared in front of the BEIS Select Committee and insisted she would be personally disappointed if the UK used flexibilities to fill the shortfall in meeting the fourth and fifth carbon budgets, but this is difficult ground for the Government. The Committee on Climate Change was critical of the proposed use of efficiencies, which would somewhat undermine ministers’ good intentions and commitment to clean growth – particularly set against November’s Budget, in which the Chancellor maintained the current carbon price floor (potentially giving a reprieve to coal) and introduced tax changes favourable to North Sea oil producers.

A 12 Month Green Energy Initiative with Real Teeth

But, there is much to appreciate and commend about the CGS. It fits into a 12-month narrative for BEIS ministers, in which they have clearly shown a commitment to clean growth, improving energy efficiency and cutting carbon emissions. Those 12 months have seen the launch of the Industrial Strategy – firstly in Green Paper form, which led to the launch of the Faraday Challenge, and then a White Paper in which clean growth was considered a ‘grand challenge’ for government. Throughout these publications – and indeed again with the CGS – the Government has shown itself to be an advocate of smart systems and demand response, including the development of battery technology.

Electrical Storage Development at Center of Broader Green Energy Push

While the Faraday Challenge is primarily focused on the development of batteries to support the proliferation of electric vehicles (which will support cuts to carbon emissions), it will also drive down technology costs, supporting the deployment of small and utility-scale storage that will fully harness the capability of renewables. Solar and wind made record contributions to UK electricity generation in 2017, and the development of storage capacity will help both reduce consumer costs and support decarbonisation.

The other thing the CGS showed us it that the Government is happy to be a disrupter in the energy market. The headline from the publication was the plans for legislation to empower Ofgem to cap the costs of Standard Variable Tariffs. This had been an aspiration of ministers for months, and there’s little doubt that driving down costs for consumers will be a trend within BEIS policy throughout 2018.

But the Government also seems happy to support disruption in the renewables market, as evidenced by the commitment (in the CGS) to more than half a billion pounds of investment in Pot 2 of Contracts for Difference (CfDs) – where the focus will be on emerging rather than established technologies.

This inevitably prompted ire from some within the industry, particularly proponents of solar, which is making an increasing contribution to the UK’s energy mix. But, again, we shouldn’t really be surprised. Since the subsidy cuts of 2015, ministers have given no indication or cause to think there will be public money afforded to solar development. Including solar within the CfD auction would have been a seismic shift in policy. And while ministers’ insistence in subsidy-free solar as the way forward has been shown to be based on a single project, we should expect that as costs continue to be driven down and solar makes record contributions to electricity generation, investment will follow – and there will ultimately be more subsidy-free solar farms, albeit perhaps not in 2018.

Meanwhile, by promoting emerging technologies like remote island wind, the Government appears to be favouring diversification and that it has a range of resources available to meet consumer demand. Perhaps more prescient than the decision to exclude established renewables from the CfD auction is the subsequent confirmation in the budget that Pot 2 of CfDs will be the last commitment of public money to renewable energy before 2025.

In short, we should view the CGS as a step in the right direction, albeit one the Government should be elaborating on in its consultation response. Its publication, coupled with the advancement this year of the Industrial Strategy indicates ministers are committed to the clean growth agenda. The question is now how the aspirations set out in the CGS – including the development of demand response capacity for the grid, and improving the energy efficiency of commercial and residential premises – will be realised.

It’s a step in the right direction. But, inevitably, there’s much more work to do.

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