
Due to the activities of climate protestors such
as Greta Thunberg, the oil industry can no longer maintain its 'business as
usual' approach. The same goes for sectors dependent on oil as well as the banks who finance their operations and also their insurers who underwrite the risks.
The Transition
The oil industry now appears to accept the science
of global warming but they maintain that the demand for fossil fuels will be
there for several decades and this justifies their policy to continue with
exploration for new oil fields and finding new areas to drill such as the
Arctic. Investors who may well be sympathetic to the climate arguments, may
well agree the transition will be a long and gradual process and therefore
continue with a balanced allocation which contain oil and gas stocks - now
renamed as 'non-renewable' energy.
However, I would suggest the transition is moving
much more quickly than the oil industry cares to acknowledge. Governments
around the world are developing policies to deliver a carbon-neutral economy by
2050. To achieve this, they will need to implement policies now to have any
chance of meeting their goal. Here in the UK for example, there will be no more
gas central heating boilers in new properties from 2025; coal-fired power
stations will be history at the same date.
In a recent announcement, the European Investment
Bank says it will no longer fund fossil fuel companies after 2020 as it aligns
its strategy with IPCC climate targets. The UK government is now coming under
intense pressure to stop providing finance to fossil fuel developments via its
UK Export Finance agency. The tap is being turned off to an industry which is
preventing the world from hitting its GHG reduction targets.
Secondly, the costs of renewables have fallen
dramatically in recent years. It is now cheaper to generate electricity from
wind and solar compared to traditional fossil fuels or nuclear. Introduce new
battery technology to even out the lack of continuity associated with
limitations of renewable generation, and it's difficult to make the case for
new fossil fuel generation just on cost considerations alone.
As weather patterns - heatwaves, drought,
wildfires, hurricanes - become more extreme, public opinion will harden against
the fossil fuel industry.
There is no doubt about the transition from the
old oil-based economy to the new, clean renewable energy economy. What is not
clear at present is when the tipping point is reached. After this point, the
old economy will fall away very quickly.
As can be seen from the chart covering the past 5
years, the commodities and oil sector has not performed well compared to the
global equities market represented by the Vanguard fund.
![]() |
Global Equities v Commodities & Energy Sector |
How Will Investments be Impacted
As many readers know, the investing process is cyclical -
some sectors do well one year and others another year. There is a reversion to mean - equities will outperform
bonds for a period and this is reversed as government bonds provide stability
during periods of uncertainty. The general advice to investors is to hold a
diverse mix of assets.
However, the energy transition is not cyclical but
structural - its a one way process which has implications for investors because
the transition will cross the tipping point which will mean changes will happen
far quicker than 'experts' predict and therefore relying on past performance
will carry significant risks. The billions of dollars still being ploughed into coal, oil
and gas projects will become a liability to the lenders and their insurers as these have a high
risk of default and a legacy of worthless stranded assets. There are many examples throughout history
where new technology has disrupted the traditional way of doing things.
Of course, the smart operators will have already
adapted to the changes in energy. For example, one of my recent acquisitions,
Orsted has transformed itself over the past decade from oil, gas and coal
business under its previous name DONG (Danish Oil & Natural Gas) to become
the world leader in offshore wind. Shell are trying to take tentative steps
away from the oil and gas sector and into biofuels, carbon capture and
wind/solar. They have signed a 5 year deal with BSR to provide solar power for
its renewables arm Shell Energy. However 98% of their global operation is
focussed on traditional oil & gas so I'm not sure how easy it would be to transform a global oil major or indeed how committed they really
are to clean energy. Shareholders should certainly be concerned and pushing for change.
The projection for demand for their products from the oil majors is
well into the 2040s but these projections have been overly optimistic in the
past. I personally suspect we are already close to peak oil and the coming
decade could well see a steep decline in all forms of coal/oil extraction which
we simple cannot afford to use if we are to limit global warming to 1.5C or
even 2.0C as recommended by the IPCC.
Conclusion
In February, I put my multi-asset global index funds under the spotlight and was a little surprised to see the level of exposure to oil majors in my Vanguard Lifestrategy compared to the HSBC Global Strategy. Since then I have made several changes to my portfolio to reduce this exposure to fossil fuel investments.
As I re-position my portfolio towards more climate-friendly funds, I am naturally looking to filter out coal, oil and gas however, with my global index funds, this is not so easy. Even the so called ESG 'green' options all hold oil majors such as Exxon Mobil, Shell and Chevron for example. My Vanguard Lifestrategy has 25% of its equity portion invested in the FTSE All Share index which has a high exposure to the likes of Shell and BP - currently 18% - so I have repeatedly asked Vanguard UK to consider lowering the allocation to UK equities and also to introduce some climate-friendly alternatives. Nothing so far...
As I re-position my portfolio towards more climate-friendly funds, I am naturally looking to filter out coal, oil and gas however, with my global index funds, this is not so easy. Even the so called ESG 'green' options all hold oil majors such as Exxon Mobil, Shell and Chevron for example. My Vanguard Lifestrategy has 25% of its equity portion invested in the FTSE All Share index which has a high exposure to the likes of Shell and BP - currently 18% - so I have repeatedly asked Vanguard UK to consider lowering the allocation to UK equities and also to introduce some climate-friendly alternatives. Nothing so far...
I remember back in 2007/08, the investing
community ignored or under-appreciated the risks posed by the sub-prime
mortgage crisis in the US which led to the global market crash and governments
having to bail out the major banks to prevent them going under. The effects are
still being worked through a decade later. My concern is this could happen on a
bigger scale as investors and lenders fail to appreciate the risks associated
with this global energy transition. We have President Trump who is openly skeptical about climate
change and very supportive of coal, oil and gas - he could well be in power for
another 5 years.
The past 5 years have been the warmest on record
and it's looking likely this trend will continue and 2019 will be the second warmest on record as the heatwave rips across Europe and the Arctic wildfires burn for weeks. Its a paradox that these past few years will most likely be the
coolest of the next 50 years due to the accumulated CO2 playing out through the
system.
So, I will look to further divest fossil fuels and
embrace the clean energy of the future. Hopefully the likes of Vanguard and
Blackrock will respond to investor demands for climate-friendly funds and I
hope readers will lobby their fund managers to offer environmentally friendly
alternatives. I will keep a little more cash in reserve to maybe take advantage of any sudden downturn in the markets.
Feel free to share any thoughts on the energy
transition in the comments below - all opinions and views welcome as ever.