The Demise of Divestment

Gerrit Heyns
Co-Founder of Osmosis Investment Management

Divestment as an investment strategy is inherently flawed. The protest leadership is well aware of this but marches on, hoping to gain greater public awareness. At best, the complete closure of every listed fossil fuel business on the planet would impact less than 70% of the world’s combustible carbon reserves, most of which are held by state-owned companies in largely single-commodity countries. At worst, even nominal success would result in the ownership of listed fossil fuel businesses by more people and institutions that have less interest in protecting the environment, further gridlocking the ability to make changes within these businesses. There may be a sense of political currency, but there is no win for the planet in an institutional divestment strategy.

It is well understood that the primary goal of the campaign is to alter attitudes toward climate risks rather than to ensure the closure of fossil fuel businesses. However, the divestment message is fleeting and less influential than its supporters would like to believe or admit claims of historic victories against apartheid, tobacco, sweatshop labor, and other such injustices are grander in the memories of past protesters than they are in their real impact. The Occupy movement is the latest example of a fizzled message. Its rightful claim of social exploitation by a group of disproportionately wealthy bankers with a distinctly cavalier attitude toward social and economic equality went viral. Yet it lasted a few short months before being cast aside by a public that initially cared but soon forgot. The cavalier attitude of the bankers outlives the protest against them.

To be clear, current and growing greenhouse gas emissions leave us in an untenably precarious position. There is an incredibly short time before the median temperature of the planet increases by more than a safe amount, generally regarded by science and at least acknowledged by most governments as approximately 2°C. More dramatically, since this is uncharted science, only a range of predicted outcomes can be determined; these include less dire consequences and far greater ones, all of which are highly dependent on the continued and increasing demand for fossil fuels.

However, divestment campaigners choose to address not the demand for fossil fuel products but its supply. In calling for university endowments and other institutional investors to abstain from ownership in fossil fuel businesses, they hope to influence government attitudes toward the supply of fossil fuels in the face of increasing demand from their consuming public. Using the economic argument that even the reserves currently held by fossil fuel producers cannot be fully burned for fear of severe climate disruption, divestment campaigners hold that those and any future additions to reserves are “stranded assets” and should be rendered worthless by the investment community.

Near the end of last year, ExxonMobile suggested that transforming all of its current and projected future assets into energy is essential to meeting growing energy demand worldwide and in preventing consumers from becoming stranded in the global pursuit of higher living standards and greater economic opportunity. Similarly, Royal Dutch Shell held in an open letter to the public at about the same time that by focusing on stranded assets, we risk distracting attention from the realities of a growing population, increasing prosperity, and growing energy demand.

The debate very pointedly expressed by big oil companies is one of incessant demand growth versus catastrophic climate disruption. Clearly, the latter is not preferable, but while interrupting supply from a small percentage of fossil fuel producers may have a marginal impact, it cannot have nearly the impact of a campaign to systematically destroy demand.

While there is no doubt that demand will grow as population increases and the middle classes swell, it may be surprising that demand is already being destroyed. According to Carbon Tracker, falling demand for coal in the United States since 2008 has caused at least 26 coal companies to go into bankruptcy. During this period, the value of coal companies fell an average of 29%, while equity markets rose more than 30%. This has come about through a combination of regulation, efficiencies, and alternatives not through divestment. However, it may better explain why some notable endowments and foundations have publicly “divested” from these rather poor investment prospects.

The same fate awaits oil and gas companies that fail to adjust to changing demand patterns. Reuters reports that since 2005, the U.S. population increased by 20 million people and output increased by over 10%, yet the consumption of petroleum products in the United States declined by more than 2 million barrels per day. In fact, the International Energy Agency recently reduced its global oil demand forecast for 2015 for the fourth time in 12 months. OPEC has again reduced their 3-year forecasts of demand to a 14-year low. Even with the collapse in oil prices, there has been precious little increase in demand over the past 9 months.

While consumers in the United States and parts of the developed world are proving that demand can be destroyed in an economic manner, it is not happening with the urgency that is required, and clearly not globally. Population increases, particularly in the developing world, are leading to the largest increases in demand over the near future. Any plan to curtail greenhouse gas emission will lean heavily on the need of the developing world to adjust its appetite for fossil fuel.

Regardless, it is clear that demand destruction is the only sustainable, long-term answer. For that to happen, scalable substitutes are needed. Fortunately, most of the technology required to begin a rapid transition to less carbon-intensive energy is available today. Unfortunately, it is not at current economically viable levels. Technologies must advance and demand for fossil fuels must be hindered.

While investment in alternative energy supplies over the past 100 years has been in excess of a meaningful $250 billion, it represents only a fraction of what the fossil fuel business intends to spend on new exploration over the next decade alone. Using “engagement” to influence this expenditure by directing it to alternatives that are more productive has been discussed and debated widely, but only in a historical context.

The powerful fossil fuel lobby around the world has successfully blocked most attempts to stifle changes to management or strategy. Even convincing the SEC to force transparent disclosure of lobby spending is extraordinarily problematic. Vigorous engagement is required. A campaign to implore endowments to force change within the fossil fuel companies they own would have similar awareness appeal and may even bring about dynamic changes.

Ultimately, the only real way to significantly influence demand is to alter the economic equation; it must be more expensive. A global comprehensive greenhouse gas tax is urgently required to help stymie the growth of demand while substitutes are refined. It must be a cost that does not exempt the most significant emitters regardless of their importance in global, regional, or national economies. Furthermore, full participation is required because greenhouse gas in the atmosphere is geographically indiscriminate. This is the size of the challenge facing the delegates at the Paris Conference of Parties (COP21) at the end of this year.

Successful and rapid implementation of an emissions tax will lead to a transition away from fossil fuels, which will indeed strand any reserves still in the ground and diminish the value of fossil fuel businesses that do not adjust to a new regime.

Both vigorous engagement and demand destruction require courage, compromise, and investment far beyond what has been seen to date. A real price for greenhouse emissions is only the beginning. Demand destruction requires alternative infrastructure development and retrofitting beyond current estimates. It includes dramatic increases in efficiencies and greater advances in innovation. Above all, it requires a collective change in attitude from near-term gain at the expense of long-term benefit that pervades all levels of society around the world. It is the end game that the divestment campaign seeks, but with greater specific purpose.

Biography

Gerrit Heyns is a London-based co-founder of Osmosis Investment Management, a global investor in resource efficiency. He was named one of the top 50 people influencing global finance in 2013 by the Institute of Chartered Accountants.

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