To Divest, or Not to Divest -That is the (New) Question
Investors are increasingly asking that question. (You know. The one that should be never raised at cocktail parties.)
“Should I invest in companies that I know are wrecking the planet?”
In simpler times, “serious investors” didn’t worry about the social aspects of investing in tobacco or alcohol or defense contractors. Our pragmatism stated that legal products were acceptable investments in a free society.
That was prior to our knowledge of climate science… before the flooding of Pacific islands and Alaskan coastal towns… and well in advance of breaching 400ppm of CO2 in the atmosphere — a level not seen in the totality of human history… That was before we learned that the publicly traded energy companies own enough of the stuff in the ground to literally cook the planet in its own juices.
This issue is harder for investors to ignore.
So, true to form, college students are leading the charge, as they did in the mid-1980’s. Back then, they pressed the big college endowments to divest from companies doing business with the apartheid-perpetuating regime in South Africa. Their activism turned into shareholder resolutions and ultimately changed history.
The kids are getting some traction again. Ten US cities have pledged to divest their modest sums invested in fossil fuel companies. Brown University’s investment committee just recommended divestment from all coal companies. Other smaller schools have taken more aggressive steps toward full divestment. Individual investors are taking notice. And it’s not just kids getting involved.
To us, it’s clear that the current energy/climate path is unsustainable. But if we are wrong, how might energy divestment impact investment performance? And would divestment have any real effect on these companies, or the planet? After all, these companies won’t really feel the pain of our selling these shares. The real pressure would come from using less of their products.
In the end, two arguments did sway our thinking in favor of divestment: Risk and Reputation.
The risk element is real. Should new energy regulations be designed to ensure that most of these reserves remain in the ground, then upwards of 60 – 70% of these companies’ market value would be impaired! This is serious “fiduciary duty” stuff, and boards would be wise to consider the issue. If nothing else, market investors may demand a discount to account for increasing regulatory risk (putting downward pressure on share prices.)
Reputation is another issue. Oil and gas companies have carefully cultivated their corporate identities. Despite spills, disasters and explosions, they remain decent corporate citizens in the eyes of the public. Should divestiture programs take on an “apartheid” flavor, the valuations accorded to these firms could be decreased. “Rogue industry” status seldom carries a P/E premium.
So, Boardwalk Capital undertook a research project to determine the performance impact of a zero fossil fuels portfolio. In this exercise, we proportionately increased other economically sensitive sectors to account for the missing “beta” from having zero energy exposure. The results were surprising. No significant performance penalty was evident and volatility was only modestly higher.
Today’s investors are confronted with serious questions. But in the end, it’s about your values, and how strongly you believe that energy fundamentals will make a seismic shift. Think there is a 20% chance of carbon-restricting legislation over the next five years? Then maybe start with a 20% reduction in your fossil fuels weight. Scale according to your conviction… or your passion.
What do you think? How should investors attack this monumental challenge?
And what if there were a performance penalty? How much is “too much” to pay for a livable planet?
Article by B. Scott Sadler, CFA, President, Boardwalk Capital Management
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