For long-term investors, climate inaction is now the radical option Opinion Article

Jun 03, 2015 - 9:35am

This article first appeared in Climate Spectator on 3 June, 2015.

Kate Mackenzie
Manager, Investment and Governance

The news that Norway’s sovereign wealth fund may sell billions of dollars worth of shares in coal-intensive companies is certain to be a game-changer. It’s a decision that will resonate with investors and fossil fuel companies from all around the world.

It shows that doing nothing on climate risk is rapidly becoming the radical option for long-term investors.

Some may be wondering why this is – after all, we’ve been hearing of high profile fossil fuel “divestments” with increasing frequency over the past year or two. Mostly, these have been universities, church groups, or philanthropic investors.

Yet things have changed. For one, Norway’s oil fund is so huge – with more than $900bn under management it famously owns, on average, more than 1% of every large listed company in the world. The fund is a respected and successful investor, measured purely on financial returns. The Norwegian news also closely follows announcements that the large insurer Axa will sell its thermal coal stocks, and that France will require institutional investors to measure and disclose their portfolio carbon footprint.

We’re now at an inflection point, for several reasons.

Firstly, these big investors are reducing high-carbon fossil fuel investments for financial reasons, not just moral ones. This is not a matter of sacrificing potential returns to take an ethical stance. A Norwegian parliamentarian told the Financial Times that the main reason for the move was that “the oil fund itself is aware of the financial risk due to climate change”. Meanwhile Axa’s CEO, Henri de Castries, told Bloomberg News that climate change already looms large for his industry, accounting for 15-20% of risk in its property casualty business.

Secondly, the decision also reportedly refers to companies that generate more than 30% of their "output" from coal. Axa has made a similar commitment. Almost every previous divestment type announcement has concerned only producers, leaving the other side of the equation – fossil fuel consumption – out of the picture. Now, the scope has been broadened to companies with other exposures to fossil fuels.

The real significance of Norway’s move, however, is that it will influence other large, long-term investors.

It might seem that the people who manage our superannuation investments are simply making dry decisions, crunching numbers and objectively applying models.

Numbers and models are all there, of course, but “herd behaviour” plays a much bigger role than we’d like to think in the supposedly coolly rational world of finance. (Keynes’ “beauty contest” is an example of how it can play out in market valuations.) Narrative is also important – read any bank analyst’s notes; you’ll often find a “story” woven into their recommendation. The world is complicated, and investment is no different. Historical numbers don’t and can’t tell the whole story.

So, the decisions of peers – particularly large and well-respected peers – is important.

Investment managers at pension funds – both the "ESG" focused ones and those generally responsible for investment decisions – are not your Wolves of Wall Street or your Flash Boys. Super fund types tend, by nature, to be a cautious lot. Regulations, board scrutiny, and "fiduciary duty" – the obligation to look after members' best interests – all these weigh heavily on most of them.

They also need to keep their customers happy. Australian super funds have something of a captive market but, to the extent that anyone pays attention to their super (although shockingly few people do), there's a risk of short-term losses inciting members to switch to another provider.

Yet many of them realise that their members are worried about climate change, too. They don't want to be financing a dangerous future, and they don't want to be risking losses by remaining stubbornly invested in high carbon assets which are likely to become "stranded". The investment decision-makers often share these concerns.

Some of our big super funds have been watching and waiting. Others have been carefully researching the best ways to minimise climate risk, applying these measures, and engaging with companies to press them to take action to protect investors’ long-term interests.

But when things change, no-one wants to be left behind. When the music stops, to paraphrase former Citibank CEO Chuck Prince, you don’t want to be last to sit down.

We all hope that investors can reduce their carbon risk in line with a safe prosperous future, without prompting a scramble to the exit that sends markets for certain assets into freefall or panic.

The news from Norway, Axa, and numerous other quarters suggests an orderly shift to a clean economy might have a better chance than many people thought.

Kate Mackenzie

Kate is Investment & Governance Manager at The Climate Institute. Prior to joining the Institute in 2014, she worked primarily as a financial journalist, winning awards for her work at the Financial Times and the Australian. Earlier, she was a technology and business reporter for the Australian, and online editor of Australian IT. Kate is a veteran of new media, and was one of the first online journalists to be hired by the ABC in the late 1990s.

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