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Is This The Next Coal Megaproject?

A new Russo-Chinese megaproject could…

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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Investors Are Turning Their Back On Coal

The net zero carbon emissions movement has finally entered the mainstream for investment professionals. Despite a U.S, delegation declaring its intention to burn more fossil fuels at an environmental conference in Poland, sounding like the energized, fossil fuel advocate and former Alaska governor Sara Palin saying, “Carbon? You betcha!”, on December 20 a group of 93 institutional investors with $11.5 trillion under management published a letter in the Financial Times. The letter stated strongly that “we require power companies… to plan their future in a net zero carbon economy…. We expect specific timelines and commitments…”

These institutional investors, typically a fairly conservative group, stated more or less accurately that the electric power generating sector accounts for one-quarter of global carbon emissions. And that sector had better clean up its act, so to speak, and do it with relative haste. For example, the investors want all coal-fired power generation owned by portfolio companies shuttered by 2030, that is, within the next decade.

Furthermore, these enviro-investors assert that action on climate change remediation delivers offsetting economic benefits. To them, carbon reduction should not be seen at all as an economic negative. This, however, is not the first demand for carbon reduction by investors, and probably will not be the last.

Although $11.5 trillion of investments sounds like a large number, it pales in comparison with the total world market for stock and bonds, which totals about $160 trillion, more or less. The anti-carbon investment movement does not, at least at this point, speak for all investors. (The market value of all US electric utility company stocks and bonds totals about $1.2 trillion, incidentally.) Related: Saudis Tread On Thin Ice As Prices Slide

But also consider the dynamics of investment management. Managers do not like to take public positions that annoy important clients. It’s kind of a basic rule. Large oil companies, for example, might not retain pension fund managers who speak out aggressively about global warming. But above all else, investment management resembles a sport. It is all about the team’s performance on game day. No one wants or can long afford to underperform their competitors, occurs by retaining positions in companies which, so to speak, never saw it coming. And managers charged with acting in a fiduciary capacity seldom relish explaining why they failed to anticipate elevated risk and declining return prospects in a significant portion of the stocks comprising their portfolios.

There is an enormous amount of money currently dedicated to passive investing with portfolios that essentially mirror the existing market or relevant subset thereof. In the US, the electric utility industry despite its importance for the economy and overall welfare of the population, comprises a rather small portion of the equity market, only 2-3%.

In other words, it is possible for institutional investors to build robust portfolios that approximate the market’s composition without owning any electric utility stocks. The electric utility industry is barely a factor with respect to broad market indices like the S&P 500. Investment managers wishing to avoid controversy and investors expressing environmental preferences can now both jettison fossil-fueled electricity generators and suppliers from their portfolios without affecting performance. Related: IEA Chief: U.S. Oil Output To Near Saudi+Russian Production By 2025

As an aside we should point out that this new attitude toward carbon emissions could soon put electric companies in the so-called “sin bin” along with liquor distillers, cigarette manufacturers and casino operators — stocks that cause offense to one group or another. Future investors will have to account for not only the usual panoply of business and operating risks. But now there is the additional stigma. And electric company executives may also begin to see diminishing prospects to both their careers and their finances.

Electric utility companies in the US and Europe are already moving away from coal and other fossil fuels. As a boiler fuel coal is rapidly losing market share to natural gas. This switch alone reduces CO2 emissions by roughly one half. However, the future of electric power generation over the next decades may turn out to be a rather unpleasant competition between natural gas and the declining cost curves of renewables. These dynamics spring from engineering progress and changing economics rather than investor activism alone. In short, pressure from investors may accelerate a trend already underway.

By Leonard Hyman and William Tilles for Oilprice.com

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  • Josh Gregner on December 25 2018 said:
    Not investing in coal by now is a very simple way to avoid poor financial performance. Not investing in utilities that are still hung-up on coal is basic risk management: utilities that have large financial assets associated with coal will face sever financial risks over the coming years.

    But I would go further than that: over the past years, you would have gained substantially if you had invested in the S&P500 without fossil companies (SPYX) vs. the S&P500 with all companies.

    Divestment makes financial sense. And since the US just managed to manufacture itself a new recession, oil is getting poisonous for your portfolio. So this difference is going to get much worse. Don't believe me? Run the numbers!
  • zipsprite on December 25 2018 said:
    >" the future of electric power generation over the next decades may turn out to be a rather unpleasant competition between natural gas and the declining cost curves of renewables. These dynamics spring from engineering progress and changing economics rather than investor activism alone."<

    Nothing unpleasant about that competition, and thank our lucky stars the economics of renewable energy continues to improve, else we would never get to where we need to be. If solar and wind had remained where they were even five years ago our future would be looking pretty grim.
  • Lee James on December 25 2018 said:
    We no longer wait for "government" to come clean. The private sector is moving forward on clean energy. This will happen in the third world as well.
  • R Jensen on December 26 2018 said:
    Plants need carbon dioxide to breathe. It is not a pollutant, it is plant food. 90% of the "anti-carbon" religion are cranks who do not understand this. The rest are billionaire elitists hell bent on using this "inconvenient truth" to lower crop yields, thus lowering world birthrates. And most of them have the nerve to call themselves "humanists" or "philanthropists." They don't love humanity, they hate it. Wake up!
  • Joshua Jim-Bob Lee on December 27 2018 said:
    Institutional investors are not particularly astute. They are a herd of dumb cows stampeding first this way and then that. Taking note of the particular direction of any given daily stampede is the mark of someone with nothing important to do.
  • hall monitor on December 27 2018 said:
    This is the proverbial iceberg tip.

    Consider what will happen to "coal related" companies such as CSX.

    For a hint of what is to come, look at the share price of XOM. Down about 40% from 2014 high and at a price level last seen in 2010...even though it remains very profitable.

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