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Leonard Hyman & William Tilles

Leonard Hyman & William Tilles

Leonard S. Hyman is an economist and financial analyst specializing in the energy sector. He headed utility equity research at a major brokerage house and…

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Big Oil Faces Looming Threat from Climate-Conscious Investors

Shell

Bank financing of fossil fuel and mining projects is “undermining” the recently signed Paris climate accord. This is according to “$horting the Climate: Fossil Fuel Finance Report 2016” issued by a quartet of environmental groups: Rainforest Action Network, Sierra Club, Banktrack and Oilchange International.

Well, so what else is new? Somebody has to finance those big projects. Who else but financial institutions? Do we want to sound like Captain Renault in “Casablanca” shocked at gambling in Rick’s establishment?

Now for the reaction. Those environmental groups have issued this report annually fingering banks that financed fossil fuel projects. As far as we can tell, the banks ignored these reports in the past. They certainly didn’t react that way this time. Several pledged to phase out loans to coal mining in general and to projects that removed mountain tops. One bank said it would no longer lend to new coal mining or to coal-fired power plants in developed countries. Given the state of the coal mining industry in general (including the bankruptcy of its biggest U.S. firm) and the lack of orders for coal-fired power stations in developed world markets, this sacrifice of loan business seemed more like a pledge not to sell fur coats in the Sahara in the middle of the summer.

When CVS pharmacies stopped selling cigarettes because it could not reconcile cigarette sales with its role as a provider of health services, it stood to lose money. In other words, these declarations look more symbolic than effective. But why make them? Why annoy potential clients this time around? We suspect that the bank PR people read the environmental report, walked in to the boss, and said, “Times are changing. This time you have to respond, and sound as environmentally aware as possible without admitting anything.”

And what are the signs that times are in fact changing?

Norway’s sovereign wealth fund, the largest in the world, has decided to divest its coal investments. (Ironic you might think given that Norway made its money in oil.) A Rockefeller family fund has also decided to exit fossil fuel investments. (The Rockefellers, as you recall, also made their money in oil.) At Chevron and Exxon's annual shareholders meetings, 41 percent and 38 percent of attendees respectively voted to require these energy giants to assess their climate change risk. In the past, do-gooders opposing management would count themselves lucky to get support in the single digit range. In this case, large institutional investors now want this information.

Roughly a year and a half ago, State Street and BlackRock (the largest institutional shareholder in the world) began to offer investors shares in a low carbon exchange traded fund. Black Rock seems to have a relaxed set of standards for shares that qualify for ownership. Their portfolio includes airlines, coal-carrying railroads and automobile manufacturers but no fossil fuel producers or utilities that burn fossil fuels. State Street’s low carbon ETF portfolio includes oil companies. So go figure, as they say. Related: NASA May Have Just Transformed Aviation With 100% Electric Plane

Several years ago a well-known utility consultant, Richard Rudden, attempted to launch a utility stock index based on a “triple bottom” measurement of sustainability. The effort failed to gain acceptance in part because investors using environmental standards for their portfolios were loath to classify any fossil-fuel burning utility as sustainable and would not countenance nuclear power in their portfolios either.

Next consider public opinion. The Gallup Poll shows a steadily increasing public concern about climate change over the past eight years--although you would never know it from the speeches in the presidential primaries. According to the most recent poll, 64 percent of those questioned are worried a great deal about climate change, 59 percent see the impact of climate change already, and 65 percent believe that humans cause climate change.

Banks will continue to finance the “wrong” kind of energy projects as long as they make economic sense. Banks only make money by making loans and doing deals, not by giving angelic advice. And in a globally competitive financial market, there is always a buyer at the right price.

But public perception of fossil fuel projects is changing. The emerging consensus is that these energy projects are environmentally harmful and this will narrow the list of investors that can buy into them. It will also increase the risk that environmental opposition might derail or delay projects, increase costs and even limit the market for the project’s output--further dampening economic viability. The result is likely to be higher capital costs for fossil fuel projects. Bank credit committees, and other creditors, will demand higher interest rates on those loans.

In a business as capital intensive as energy, higher capital costs meaningfully decreases competitiveness. That is the real message.

By Leonard S. Hyman and William I. Tilles

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