Investors must wake up to new climate game
Conviction, action and self-education are key amid concerns over global warming
The skill of an investor is to find price. In the case of equities, it is the price of a stock. In the case of debt, it is the bond price. The investor then determines whether the broader market has undervalued or overvalued the asset, and based on this either buys, holds or sells. But in the age of climate change, are investors able to find the right price? Does climate change throw up unknowns that even the most experienced investor is unable to detect?
We have a good idea what the cost of climate change is likely to be. Without any corrective action, the respected Stern Report of 2006 estimates a cumulative cost equating to 20% of global GDP, resulting from future extreme climatic events. However, climate change is more complex than this. At a granular level, it is impossible to accurately predict the cost or benefit of a changing climate to individual companies. This is problematic for advisers, individual investors and fund managers, whose job it is to predict future price trends.
Even the most successful investment houses are being caught short by the implications of climate change. Think-tank the Institute for Energy Economics and Financial Analysis reported that BlackRock, the world’s largest investment house by assets under management, eroded about $90bn of investor value in the decade up to 2017. The cause was an over-exposure to poor-performing fossil fuel and energy stocks — heavy greenhouse gas emitters, and the main culprits of global warming and climate change — while the rest of the market bulled ahead at a much faster pace.
Divestment protagonists will argue it is more prudent to pull out of fossil fuels completely, and rather direct that capital towards existing and future renewable energy and other clean technology stocks
BlackRock’s explanation was its extensive play in passive index funds, where it has no control over which assets they are invested in. But is that an adequate response? Investors should surely know better.
Must investors then screen out high-emitting companies from portfolios, placing them in the same bracket as “sin stocks” such as alcohol, tobacco, pornography or armaments?
According to the Climate Accountability Institute and the CDP, an investor-driven non-governmental organisation, 72% of greenhouse gas emissions since 1988 have originated from the activities of just 100 companies and public enterprises — Sasol, Anglo American, Exxaro and Glencore are some of them. If this is correct, there is an argument to being invested in these companies and effecting change from within to reduce greenhouse gas emissions of meaningful scale. It equates to the 80/20 principle, in which you tackle those few culprits responsible for most of the harm.
Divestment protagonists will argue it is more prudent to pull out of fossil fuels completely, and rather direct that capital towards existing and future renewable energy and other clean technology stocks. This, they say, not only makes financial sense but will also send a signal to the market and policymakers that the need for a transition to a low-carbon economy is immediate and that traditional energy sources are already outdated.
Whichever approach is taken, investors will need to act with conviction as there will be winners and losers in the new climate game. The energy sector merely illustrates the increasing demand on investors to properly educate themselves on climate change, how it will affect different sectors and geographies, the current and future policy implications and, importantly, what the global sociopolitical consequences of climate change will be. All investors who fail to do this do so at their peril.
In addition to energy and across all other sectors, investors will simply have to be more active. Asset owners, on whose behalf professional investors deploy capital, will be demanding increased transparency and measurement as they attempt to align investment decision-making with personal social and environmental values.
Strong climate change policies should be supported by purposeful acts of stewardship, in which investors engage with investees, drive positive action within companies and quantifiably report on progress. Such action should be consistent across all their investment activity as every rand invested carries responsibility. Even passive funds should not mean passive owners, and houses such as BlackRock should no longer be able to hide behind such excuses.
Investors will also need to understand and properly interpret corporate reporting on climate change. The Task Force on Climate-Related Financial Disclosure (TCFD) is the latest framework being offered to communicate financial risk and opportunity that climate change places on companies. It will be imperative for investors to interpret such reports in the same way they do financial statements. They need to understand the financial impact climate change will have on companies under different global warming scenarios, from a range of 1.5°C to 6°C of warming.
Every half-degree difference brings consequences on natural resource availability, such as water, and this affects choice of locality and cost of operations. Once investors have such understanding, they will demand thorough audited disclosure from companies and will be alert to any fraudulent claims that will have a material effect on the value of an asset as affected by climate change.
Robust engagement with investees, coupled with a true understanding of the risks and opportunities of climate change, will reveal hidden price in assets. It will be the climate-savvy and skilful investor who can identify this price.
• Hetherington, a sustainability consultant, is studying sustainable finance at Columbia University, New York.