SIGNAL HILL, CA - APRIL 20: An oil pumpjack operates as flowers grow amidst the coronavirus pandemic ... [+]
A little under a decade ago I participated in a working session for sustainability-focused investors, hosted on the campus of a very well-known and markedly liberal university campus. After a long day of meetings aimed at finding ways to shift more institutional investment dollars away from fossil fuels and into renewables, the Chief Investment Officer of the university’s endowment was kind enough to drop in on the meeting and answer a few questions.
Predictably, one of the questions aimed his way was, “Will you consider pulling investment dollars away from at least some fossil fuels investments, like coal?”
And his answer was an emphatic “No.” He then went on to give a spirited (and dispiriting) defense of keeping every investment option on the table as part of their fiduciary duty.
Flash forward to today — not only that very university, but a host of academic and philanthropic endowments have determined to divest from coal-focused investments. Major banks and other financial institutions have moved in the same direction. Insurance companies are increasingly restricting their exposure to coal.
Not coincidentally, this has taken place alongside a significant decline in the health of the coal and coal-fired generation market. Some of this divestiture is a result of increasing pressure by NGOs, students and other groups. But really, the biggest reason institutional investors have been pulling away from coal in particular is because the industry is getting crushed under pressure from low-cost natural gas and renewables. As a long-term trend, the industry’s prospects are quite bleak.
When an investment asset starts getting really volatile and performing poorly, it makes it a lot easier for the investment professionals to pay attention to the long-term sustainability argument. Why risk your investment career fighting for the right to put capital into a sector with poor returns prospects over both the short and the long term?
Which raises the question as to whether we may be seeing a similar watershed moment for oil investment, driven by severe volatility in the oil market. The global ‘Rona Recession from COVID-19 has significantly depressed oil prices, and mostly highlighted a lot of near-term risks in the market.
In particular, just yesterday (April 20th) witnessed the previously unthinkable: Negative oil prices. To be clear, these starkly negative May futures prices were mostly the result of a very immediate storage supply-demand imbalance in one particular oil market, WTI. But the futures markets are signaling continued depressed prices going forward, and that is even while analysts see price volatility continuing as well.
So the near-term prospects for oil investors don’t look great. In fact, Pitchbook’s Eliza Haverstock wrote yesterday that a wave of bankruptcies loom for private equity-backed companies in the oil sector.
And the long-term prospects aren’t clearly better. The International Energy Agency had already forecasted global oil demand would peak in the mid-2020s. This is different from previous forecasts of “peak oil” over the years in that it’s peak demand, not production (it turns out humans are very good at inventing new ways of boosting production of things like oil). And in fact, some analysts are already asking if the ‘Rona Recession effects mean that we may have seen global peak oil demand in 2019.
This is in the context of major institutional investors already re-examining their investment strategies regarding all fossil fuels, not just coal. Last year, Norway’s sovereign wealth fund grabbed a lot of attention for deciding to divest out of upstream oil and gas investments (although this was framed around so much of the country’s wealth already being tied up in such operations). Divestiture pressures are no longer focused on coal but on fossil fuels overall. And whether or not such campaigns are successful, this just further signals that the long-term investment prospects for oil may not be so rosy, as the world increasingly wrestles with the policy and economic implications of climate change.
It also really doesn’t help that oil and gas prices remain so highly volatile, in an era of low yields across the board leading to investor appetite for more certain returns. Meanwhile, renewables continue to attract more interest as they often represent more predictable return profiles, and are seen as “safe havens” right now.
So if you are an institutional investor, and you’re being asked tough questions about your investments into a sector that has depressed and volatile near-term pressures, and also uncertain long-term prospects... And you also have the ability to shift your investment dollars toward alternative investments with more predictable near-term return profiles and a better long-term outlook... What would you do?
The quick inflection point that we saw around coal investment patterns during the past decade may thus be about to occur around oil investments as well. In the past, after such global downturns oil demand and investments have quickly rebounded. It’s a classic “boom and bust” industry. But perhaps this time we may see things happen a bit differently than before.
