Investors who are concerned about the long-term sustainability of the planet — and their portfolios — are asking increasingly, “Should I divest from fossil fuel companies?” It’s a fair question to ask, especially as New York City recently announced plans to sell off $5 billion in fossil fuel investments in an effort to fight climate change. Although this move has merit as a political statement, climate-proofing a portfolio and positioning it to help solve the climate crisis requires a more nuanced and proactive responsible investment (RI) strategy.
The idea of fossil fuel divestment gained traction a few years ago following a grassroots campaign led by 350.org, a New York-based non-profit organization, calling for investors to “take money out of the companies that are heating up the planet.” The goal of this campaign is to foster “a safe climate and a better future.” But will selling shares of fossil fuel companies actually safeguard the climate? A quick analysis reveals this is not so simple.
Excluding fossil fuel companies doesn’t necessarily create a low-carbon portfolio. For example, you could divest from oil and gas companies while still being fully invested in airlines, automobiles, food companies and other resources-intensive industries that are driving climate change — as well as other industries that are vulnerable to climate-related financial risks. If investors apply the divestment logic to all industries that are contributing to climate change or exposed to climate risks, they aren’t going to be left with much of an equities portfolio. Furthermore, they’ll be missing out on opportunities to invest in corporate sustainability leaders.
It’s also important to recognize that divesting from fossil fuel companies does not affect the consumption of fossil fuels. Although coal may already be regarded as a sunset industry due to weakened demand, oil and gas companies will remain important market participants as long as their products continue to fuel the economy, regardless of who owns their stocks. Divestment has its merits — but they’re symbolic in nature in that divestment makes a strong public statement about personal and collective values. However, it doesn’t constitute an investment strategy to fix climate change. So, how can climate-conscious investors contribute to positive change proactively while reducing their exposure to climate risk?
Decarbonization is one strategy worth considering. It involves re-weighting a portfolio by excluding or underweighting high-carbon companies in each sector while re-investing that capital into carbon-efficient companies within the same sector. A report from MSCI found that the MSCI ACWI low carbon target index, which uses a decarbonization strategy, produces about one-third of the carbon emissions of the MSCI ACWI ex fossil fuels index, which simply excludes fossil fuel companies.
But while decarbonization and taking stock of a company’s carbon footprint can help manage exposure to climate risk, these strategies alone will not fix climate change either as wind turbines, electric vehicles, and many other vital climate solutions require a lot of energy to produce. A climate-friendly portfolio must be forward-looking.
To address climate change, we need to allocate capital to sustainability leaders across many sectors — and invest in companies that are supporting the transition to a low-carbon economy. Fundamentally, we need to transform the energy system. This means energy companies that want to succeed tomorrow need to start planning for a low-carbon future.
The most direct way to change a company is to take a stake in it. Shareholder engagement is an act of responsible ownership that can be a powerful way to change corporate behaviour. Engagement refers to the use of shareholder power to influence a company’s performance on environmental, social, and governance (ESG) issues. Specific tactics include dialogue with senior management, proxy voting and shareholder proposals aimed at improving a company’s ESG performance.
A great example of shareholder engagement took place when NEI Investments submitted a shareholder proposal to Suncor Energy, asking the company to disclose and report regularly on its plans for operating in a low-carbon future. Suncor’s board and management accepted the proposal, and the company published a report on how it plans to reduce its carbon footprint, manage climate risk, diversify into renewables and align its business strategy with a carbon-constrained world. This raised the bar for corporate disclosure in the energy sector.
Addressing climate change also means investing in forward-looking companies that are providing innovative solutions to environmental challenges. Sustainability-themed investing refers to investments in companies involved with energy efficiency, green infrastructure, clean technology, renewable energy, sustainable agriculture, water and waste management, and other solutions to the climate crisis. Investment products that focus on these themes are available in Canada from a variety of investment fund manufacturers and represent a solutions-driven approach to tackling environmental challenges.
Although the fossil fuel divestment campaign deserves credit for drawing attention to the need for aligning investments with a low-carbon future, it falls short of meeting that need. Any exclusionary approach must be made whole with a forward-looking RI strategy.