By Jon Yazer and David Hogg
Part 1: The Case for Carbon Divestment
In light of Doug Ford’s decision to dismantle Ontario’s cap-and-trade program, weaken the provincial emissions target, and challenge the federal climate plan in court, many Ontarians are undoubtedly wondering what they can personally do about climate change.
One step we think Ontarians concerned with climate change should consider is divesting carbon assets from their investment portfolios.
In fact, we think all Canadians who invest should take a serious look at making carbon divestment a part of their investment strategy.
Carbon divestment is the choice to reduce or eliminate the fossil fuel exposure of an investment portfolio. In the strictest sense, it means a portfolio contains zero fossil fuel assets. It requires selling any holdings in fossil fuel companies and screening out those companies in all investment decisions going forward.
Let’s examine a few reasons for pursuing a carbon divestment strategy.
1. Aligning your investments with your ethics.
Many investors are already familiar with screens for industry sectors such as tobacco, mining, and arms. We think that carbon divestment is categorically different because the extraction and consumption of fossil fuels represents an existential risk to the future of human civilization, arguably making it one of the most urgent sector screens.
2. Effecting change with your investments.
One common objection to divestment is, what can I do as just one investor? About as much as your single vote each election. The sum of individual choices is aggregated outcomes, and when enough people make the same choice, social change is possible.
Won’t less socially-minded investors simply buy any shares sold by divestors? Indeed, research has shown that the anti-apartheid divestment campaign of the 1980s had no impact on the public market valuations of targeted South African companies.
However, divestment most likely did increase the visibility and scrutiny of apartheid and contribute to as well as represent the worldwide opposition to South African apartheid. As it has been said elsewhere, financial hardship was never the goal; the goal was political action.
On this front, carbon divestment is already scoring victories.
As the fastest growing such movement in history, carbon divestment has been significant in shifting public discourse on the legitimacy, reputation, and viability of the fossil fuel industry. Divestment efforts have also had the effect of raising the awareness and legitimacy of carbon taxation.
Campaigners point to evidence that divestment could even be impacting bottom lines, such as Goldman Sachs’ report that the divestment movement “has been a driver of the coal sector’s 60% de-rating over the past five years,” and Shell’s announcement that it considers divestment a “material risk” to its business.
3. Stranded assets.
When you divest, you won’t be acting alone. Many institutional investors are adopting a divestment strategy, driven by the risk of stranded assets. This refers to the enormous amount of fossil fuel reserves that need to remain in the ground if the world is to limit climate change to two degrees of warming.
Stranded assets are not accounted for in the value of carbon-based energy companies, which assume all fossil fuel reserves will be extracted. Citi has estimated that “around $100 trillion of assets could be ‘carbon stranded’” and HSBC has calculated that “fossil fuel equities could fall as much as 40–60% in a low emissions scenario.” Fossil fuel companies are therefore significantly overvalued in a post-fossil fuel world, whether due to carbon pricing, legal action, or renewable energy innovation.
Investors don’t want to be holding fossil fuel assets when the carbon bubble bursts.
That’s why, if you decide to divest, you’ll join 1,000 institutional investors with assets over $6.2 trillion who have already committed to carbon divestment, including many major insurance companies and even the Republic of Ireland, the first country to divest from fossil fuels.
Institutional investors take a longer view than most individuals, but their actions signal a growing conviction that a low-carbon future is inevitable. While Doug Ford is slashing climate programs today, we think the larger trajectory is towards global climate action in the medium-term because the cost of inaction is too steep to ignore. No wonder the Canadian Chamber of Commerce, representing 200,000 Canadian businesses, just came out strongly in favour of carbon pricing.
Action on climate change heightens the risk of stranded assets and therefore strengthens the pragmatic argument for divestment.
However, if the smart money is wrong, then the ethical case for divestment which we described above only becomes stronger. There is a strong case for divestment either way.
Now let’s consider a couple of common objections.
1. The myth of sacrificing gains.
As long as the carbon bubble remains intact, won’t you sacrifice gains by not investing in the fossil fuel industry? The energy sector constitutes nearly a quarter of the Canadian stock market, and that seems like a lot to avoid.
The reality is there is an increasing number of investment options that can provide you with a scope of choice along with great opportunities for growth and gains. There are opportunities to purchase a basket of Canadian companies selected based on their size with reduced fossil fuel exposure, or you could pay an investment manager through the use of a mutual fund to select companies with good growth characteristics without fossil fuels.
Beyond Canada, the choices widen considerably and the portion of the global stock market tied to fossil fuels is significantly smaller, less than 6%. There are also many low-cost, low-carbon ETFs becoming available to retail investors (more on that below).
There’s even a case for divestment on pure profit-making grounds.
As Corporate Knights reported, “the general outperformance of fossil fuel-free investment strategies over the past five and ten year periods is now well documented and proving resilient even as oil prices rise. For instance, the S&P 500 Fossil Fuel Free Index was ahead of the S&P 500 on a five-year basis as of market-close September 26th 2018.”
The report adds that New York State’s Common Retirement Fund would be an estimated $22.2 billion richer had it decided to divest its fossil fuel stocks ten years ago.
2. The myth of the green fossil fuel company.
Aren’t fossil fuel companies changing their underlying business models and diversifying their operations to become leaders in the green energy revolution?
Many such companies want to be considered ‘energy companies,’ and spend lavishly to convey that message. To their credit, executives at some Canadian firms have publicly supported carbon pricing. We hope some of these companies will respond to divestment, investor engagement, government policy, and competition from renewables, and join the transition away from fossil fuels.
Until then, our rule of thumb is simple: don’t trust Big Oil.
Despite their PR, the industry’s major players have recently taken efforts to rewrite American car emissions rules, kill climate action like carbon pricing, fracking bans, and solar power utility mandates, and greenwash their images with unproven, “shot-in-the-dark” fantasies (BP, which publicly supported a $40 U.S. national carbon tax, spent the most to defeat a $15 carbon tax in Washington State).
Once you learn what #ExxonKnew about climate change and how it chose to respond, you’ll have a difficult time believing anything these companies claim.
In the next part, we provide some practical advice on how to get started with carbon divestment.
Part 2: How to Get Started with Carbon Divestment
How can you as an individual investor start the process of carbon divestment? We recognize this strategy can make some investors feel intimidated because of a lack of know-how. But the process is easier than you think.
Here are what we consider the three most important steps to divesting your portfolio of fossil fuels:
1. Consider your motivations and the strength of your screen.
How strictly do you want to interpret and apply your fossil fuel screen? Will you permit investing in funds that include less than 5% energy, or will you go zero carbon? Will you just exclude oil and gas companies, or use an expanded screen that excludes companies like vehicle makers and financial institutions that bankroll the oil patch?
Are you an abolitionist or a reformer? Do you want to support companies that have responded positively to investor engagement like Shell, which, in an unprecedented move, committed to setting short-term emissions reduction targets, and will link them to executive pay after successful engagement by Climate Action 100+? (While we applaud this kind of investor engagement, we think that it’s more practical for individual investors to make an impact through divestment).
These are important questions only you can answer. To do so, it is imperative that you understand your reasons and motivations for divesting.
2. Seek advice.
If you have an advisor, you should schedule a meeting to discuss how you can align your ethics with your investment goals.
Some robo-advisors like Wealthsimple are now offering Socially Responsible Investing (SRI) portfolios that include “low carbon” stocks, meaning stocks with a lower carbon exposure than the broader market. Not a perfect solution for an abolitionist, but it’s a good start.
If you don’t have an advisor or are looking for a fresh perspective, then we recommend you search the Responsible Investment Association’s listings for responsible investment advisors, which allows you to filter results on the basis of investor type and minimum account size.
3. Divest from the worst, invest in the best.
a. To make things simple, we suggest performing an initial review of your portfolio for the worst climate performers. To assist you, we recommend reviewing the The Carbon Underground 200™, which lists the 100 largest public oil and gas plus the 100 largest public coal companies globally, as measured according to the potential carbon dioxide emissions of their fossil fuel reserves. The report is free by request to individuals for their personal use, such as to support a divestment strategy.
b. If you don’t want to bother requesting a copy of this report, another great step involves divesting from the eight companies that account for 20 percent of global carbon emissions from fossil fuels since the Industrial Revolution. Divesting from the largest fossil fuel companies is a simple and effective strategy because it captures all downstream fossil fuel consumption, from automobiles to plastics.
c. Next, review the funds in your portfolio with the help of Fossil Free Funds, a database of thousands of U.S. equity funds that tracks fossil fuel investments, carbon footprints, and clean energy investments for every fund. If your funds aren’t in this database, try reviewing the fund prospectus or contacting the fund manager for more information about its fossil fuel exposure.
d. With the cash left over from your divestments, consider investing in any of a growing number of low-carbon ETFs, which you can find using the Fossil Free Funds tool or with the help of an advisor. You can also do your own research; many Canadian banks and credit unions now offer low-carbon funds.
Depending on your goals, you may also want to consider green bonds for a portion of your portfolio. CoPower, SolarShare, and the Ottawa Renewable Energy Co-operative are a few Canadian options that offer steady, reliable gains.
For a specifically Canadian perspective, economic instructor and financial planner Tim Nash offers some model portfolios on his personal website, The Sustainable Economist.
The important thing is to start simply so that you feel comfortable.
Whether you are a retiree worried about transferring wealth (and a healthy planet) to the next generation, a family trying to start an education fund for your newborn, or a recent university graduate looking to grow for the future, there are plenty of options available that enable you to adjust your portfolio so that you can meet your capital growth goals and abstain from supporting the fossil fuel industry.
Ultimately, carbon divestment doesn’t need to be a radical move or big departure from your current investment choices.
Climate change could spell the end of the world, but divesting your investment portfolio from fossil fuels doesn’t have to.
David Hogg is a former Associate Portfolio Manager at BMO Nesbitt Burns. Jon Yazer is a graduate of the Balsillie School of International Affairs and a former Urban Fellow at the City of Toronto.