The climate change and asset management dilemma

Five of the world’s biggest oil companies have just declared combined profits in excess of $100 billion (R1.8 trillion) for the third quarter of 2022. Image: REUTERS/Bob Strong.

Five of the world’s biggest oil companies have just declared combined profits in excess of $100 billion (R1.8 trillion) for the third quarter of 2022. Image: REUTERS/Bob Strong.

Published Nov 11, 2022


By Ian Kilbride

There is a rich irony to global oil companies declaring record profits immediately before the COP27 climate change conference being held currently in Egypt.

According to UN Secretary General Anthony Guterres, the global pledge to keep global warming below 1.5˚C above pre-industrial levels is “on life support”. Rather than halving greenhouse gases before the 2030 target, they are projected to rise 14%.

According to the latest report from the authoritative World Resources Institute, we are not on track to meet any of the 2030 climate change commitments made at the 2015 Paris climate summit.

Yet five of the world’s biggest oil companies have just declared combined profits in excess of $100 billion (R1.8 trillion) for the third quarter of 2022. Placed in perspective, this figure equates to almost 25% of South Africa’s annual gross domestic product.

These quarterly profits also equate to the quantum of annual climate change funding pledged by developed economies and never delivered. While at a lower scale, global resources companies have also done handsomely from profits generated by higher coal prices since the outbreak of war in Ukraine. One controversial global mining house recently reported a 900% surge in core earnings from its coal unit.

For asset managers with significant exposure to oil, gas and coal, 2022 has been a boom year. By contrast, the slump in the value of global technology and media stocks over the same period has been sobering.

This contrast in asset performance presents a perplexing paradox for investors and asset managers. In the mythical ideal world, few would choose to invest in “dirty” industries that are major polluters and producers of greenhouse gases.

Yet given the current global economic conditions, not having some exposure to oil, gas and mining could easily have left investors under water, particularly given the sell-off in the tech sector and turbulence in capital markets.

Adding to the ethical investor’s dilemma, companies linked to the military industrial complex are set for significant windfalls as a result of increased military spending over the next decade as a consequence of the war in Ukraine.

So, here’s the dilemma. Asset managers are paid to produce real risk-adjusted returns for investors, this is their reason for existence. Millions of pensioners rely on asset managers to provide sustainable incomes to sustain them through their retirement years, while younger investors require regular compound growth from their savings. This constitutes a professional and ethical imperative for asset managers.

They are also measured, incentivised and rewarded by their performance against each other in the relentless quest for alpha – the achievement of excess returns above their funds’ benchmarks. No matter how noble the intention, no asset manager will place their client’s funds at risk for the sake of green credibility.

As a country, we don’t have the luxury of being able to draw on the resources of a sovereign wealth fund to direct responsible investing, so one route is for government to make renewable energy a prescribed asset in which all fund managers have to invest a portion of their clients’ funds.

This would, in effect, compel local asset managers to invest in local renewables, thereby creating a more level green playing field. Such imposed prescription is unpalatable to most fund managers, however, it may in fact produce negative unintended consequences.

The more sustainable solution for asset managers is for green energy to become investible. The issuing of green bonds, ring-fenced for exclusive application for funding environmentally responsible or climate-related projects, is a welcome start. Yet this constitutes a drop in an otherwise highly polluted ocean of investment opportunities.

The inconvenient truth confronting South African asset managers currently is that there are precious few, if any, listed green energy companies on the local stock exchange that meet acceptable risk parameters including market capitalisation, liquidity and the ability to operate a sustainable business model.

Structural change in South Africa’s energy mix is unlikely in the short to medium-term, so as an interim step, we require many more locally listed entities to commit to measurable and verifiable environmentally sustainable practices and, most importantly, the major greenhouse gas producers.

Indeed, while the JSE prescribes a host of governance standards, such as adherence to the King Code, to meet its listing requirements, environmental sustainability has to become front and centre. Doing so would establish a verifiable standard, not only for listing compliance, but also allow asset managers to rate and rank companies deserving of responsible investment on behalf of their clients.

Ian Kilbride

Ian Kilbride is Chairman of [email protected]