The COP26 summit in Glasgow drew further investor attention to the urgent action that is required in order to potentially avoid the harmful effects of climate change. Still not convinced? Try reading this from NASA as a reason to be concerned.
For investors, there are various lines of approach that may need to be considered. One is to ‘suck it up’ and put money to work (if you haven’t already) on expensive ideas – green energy, transformational technology and future bets on concepts that we think may be promising but are definitely not a sure thing (small nuclear reactors, fusion energy and other ideas). Another thought is to take time to contemplate and lay down some investment ideas on the view that things will get worse on this ‘late great planet earth’ and things like food scarcity, flooding of key areas and other events may occur with more regularity within our lifetimes. This may mean examining the holdings of companies and sectors that may be adversely affected by climate change costs.
What about pricing out emitters?
An intellectually appealing solution to try and wean industry and consumers off energy use that produces greenhouse gases is to establish a carbon credit market where emitters need to ‘pay up’ in order to release some of these greenhouse gases. The power of the free market will force firms to achieve net zero or better in order to remain in business over time. There are examples like Canada where they are taking the bold step in trying to create a market price for emitters. China has a carbon trading system in place, but it is probably too early to see if this will actually reduce emissions, given the energy need in the country that has seen them reverse their coal use policy this year. The EU has a sophisticated scheme that has been around for a while, with new record prices being set for carbon credits this week. The US has some national and regional ‘cap and trade’ systems in place.
The problem though is that unless a global approach is taken, firms will have the perverse incentive to shift production to a cheaper carbon (or free) trading regime and import the goods to their home country/bloc. This gets worse if they cut down a forest or build their factory in former ‘green’ land as well. The simple, and yet politically charged solution is to put up carbon borders. A country that is dragging its feet on climate change action (India, China) will be forced to adopt better practices if its exports to countries that are imposing more stringent greenhouse emission regulations face steep ‘carbon border taxes’. Given the ‘watering down’ of the coal language at the end of COP26, the power of the market could do more than a vaguely worded end of summit declaration. If the US passed a law saying ‘here are our emission standards, meet them or better them or your goods will face a tax or outright ban’ this will go a long way to even the playing field for domestic emitters. The EU seems to be moving in this direction as recent press articles suggest that they will ban agricultural and wood imports into the EU if they come from areas of deforestation.
Technological solutions to the rescue
Besides putting money to work on proven green energy solutions, investors should keep an eye out for frontier ideas as well. The idea of being able to cleanly use coal is usually seen as being too expensive, but it shouldn’t be ruled out. There are proactive ideas as well that may help in capturing CO2 – like sowing the seas with iron which sounds pretty daft, but who knows, in the fight to keep temperatures from rising, every little bit helps. Which could see the idea of trying to mimic some of the effects of volcanic explosions in order to cool the earth develop further. This may not be as hard to do as it seems, but it may be difficult to convince the world to act together.
The bottom line for us is that we should continue to work on climate change investments within our existing portfolios and spend time and energy in looking at new ideas. In addition, as James Chu, our Head of Investment Solutions has pointed out in many of our ESG papers and blogs, investors must understand the investment objectives, horizon and risk. Typical approaches using exclusion of sin stocks can make your portfolio more concentrated. Integrating traditional stock selection process with ESG metrics will be affected by what metrics are used and their formulations. And some of the more innovative technologies mentioned in this blog can be risky and may need a longer investment horizon in some cases.
Gerry Celaya
Chief Strategist