The Diverging Perspectives of Students, Investors, and Politicians on Divestment
Post-secondary institutions’ endowment funds are invested in a variety of assets. Endowment funds are massive, in the aggregate their value is in the trillions. Numerous North American universities are invested in the oil & gas sector; however, many are being lobbied to divest of these holdings. Activists, concerned about the effects of climate change, believe universities should not be owners (or lenders to) of energy names. Divestment is defined as the process of selling assets. The perspectives on divestment have been divergent; people either support the concept or discredit its effectiveness. Unfortunately, opinions are often based on biases – not facts.
Endowment committees, consisting of staff, professors, and alumni oversee the management of universities’ portfolios. Active management is contracted out to institutional investors who follow a “statement of investment guidelines”. This document provides direction to portfolio managers on the type of sectors, amount of risk, and nature of securities that they can purchase on each university’s behalf.
Students at a variety of North American universities have pressured endowment committees to divest. For instance, last fall “climate change activists stormed the field at the Yale-Harvard football game on Saturday afternoon, disrupting the game at halftime in a protest to call attention to the universities to divest their investments in fossil fuels.” Harvard has refused to consider divestment since the inception of the movement in 2011. Yale has made some pledges to divestment but was criticized for investing in Antero – a fracking company. In Montreal, Canada, Divest McGill has established a strong base and movement. The organization’s central mission is to pressure McGill university to divest its endowment fund from the top 200 companies in terms of carbon reserves (commodities in the ground). Additionally, they would like McGill to divest of companies that transport oil & gas. McGill has responded to these requests by stating that they are “interested in decarbonizing the endowment”. This was not the response Divest McGill had hoped for as they did not specify how they would “decarbonize” (nor provide a definition of the term).
Activists’ dissatisfaction runs deeper than universities’ investment decisions. Leaders of the world’s largest countries are being pressured to restructure their economies away from fossil fuels. In Canada, environmentalists contend that Justin Trudeau is hypocritical vis-a-vis climate action. While campaigning in 2019, Trudeau stated, ”it should not have taken this long for a Canadian government to get real about climate change”. However, in 2018 the Liberals spent $4.5 billion to purchase the Trans Mountain expansion. Environmentalists were outraged as this purchase gesticulated the Grits support of the Canadian energy sector. Words clearly do not imply action. Moreover, inconsistent positions on policy is a poor signaling exercise which only serves to “stoke the flames” of passionate activists.
Institutional investors are highly aware of societal pressures to support green companies. Many engage in “Responsible Investing (RI), also sometimes called Socially Responsible Investing (SRI), [which] refers to the practice of considering environmental, social and governance (ESG) issues during the selection and management of financial investments.” Investors discuss their ESG concerns with companies (of which they have purchased shares and/or bonds) management. Such dialogue has enhanced corporate awareness and resulted in positive adjustments. As an example, Cenovus (a Canadian oil & gas company) committed to net zero emissions by 2050 to solidify their pledge to a better future.
However, it is worth noting that investment managers have a fiduciary duty to earn clients the highest risk-adjusted return. ESG concerns are not embedded in the fiduciary duty commitment. Thus, if multiple firms divest of a name it may create a good buying opportunity for another. As long as the company can attract capital it is not impacted. Moreover, there are no standardized General Accepted Accounting Principles (GAAP) for ESG reporting. The Sustainable Accounting Standard Board is working towards creating clear reporting standards. Asset managers will be able to use these statistics to assist in their decision-making process. “Most investors believe that if companies do well on ESG metrics, they will have better risk-adjusted returns since those efforts will result in their businesses becoming more sustainable in the long term through lower risks, greater profitability and higher dividend yields.”
On the production side, companies respond to demand. Technology is not yet sophisticated enough to provide a complete substitute for oil & gas. Firms will, therefore, continue to extract and produce until it is no longer profitable. Profitability is an element of the divestment debate; many argue that producers lose money in a low-price oil & gas environment. When WTI prices are above $40 per barrel most Canadian firms are profitable. Notwithstanding, when prices are weak companies still engage in production because some cash flow is better than none. Moreover, infrastructure and technology must remain operational to have the optionality to increase capacity.
Intellectual compromise on divestment appears unlikely; both sides offer compelling arguments. However, I think it is important to attempt to understand the rationale and motivation behind their contentions. Which raises the question: can business interests and environmentalists compromise? When I wrote my last article, advocating for a “greener” economy, I believed they could. But upon further reflection I am doubtful. Compromise requires “give and take”. Investors have attempted to incorporate environmental concerns into their business strategy. Regrettably, activists seem reluctant to champion environmental solutions which are sensitive of the economic consequences of their demands.