Pension Tension in the Fossil Fuel Industry

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The burning of fossil fuels. Sukree Sukplang/Reuters

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The global transition to clean energy has caught pension fund managers flat-footed, costing millions of pension holders hundreds of billions of dollars.

Coal, which accounts for over 40 percent of global greenhouse gas emissions, is being pushed off a cliff. Peabody Energy, the largest private-sector coal company in the world, filed for Chapter 11 bankruptcy protection this April, and the Dow Jones Coal Index dropped 93 percent over the past five years.

Oil companies aren’t doing much better either. Fifty-two have filed for bankruptcy since 2015, and over a third of the world’s biggest oil and gas companies could go bankrupt this year from crushing debt loads (over $150 billion) and cash flows depressed by low oil prices, according to Deloitte.

Major pension funds are now only half as exposed to the fossil fuel sector (1.5 percent to coal, 7 percent to oil and gas) as they were five years ago. That’s not due to any active decision to divest but rather divestment by value destruction as their stock holdings have whittled away in monetary worth. Pension fund managers are staying afloat on a bobbing ship.

While growth in fossil fuels stagnates, growth in clean energy is taking off. The world is currently adding twice as much clean power capacity as coal, oil and gas combined, according to Bloomberg New Energy Finance (BNEF). Wind’s market share of power generation has doubled four times in the past 15 years, and solar has doubled seven times. It’s also getting cheaper to make power from wind and solar, thanks to technology, better financing and economies of scale. Now 5.6 percent of the stocks evaluated in Newsweek’s Green Rankings earn at least 20 percent of their revenue from green sources as verified by credible third parties.

Oil demand is expected to take a major hit from the skyrocketing rise of the electric car. Battery prices fell 35 percent last year, and electric car sales rose by 60 percent. By 2022, BNEF estimates electric vehicles will cost the same as their internal combustion counterparts, and if growth continues at the current pace, oil displacement by electric cars will reach 2 million barrels per day by 2023—the size of the current oil glut and enough to drive global oil prices into the gutter. Factoring in autonomous cars and ride-sharing services, electric cars could reach 50 percent of new car sales by 2040, according to BNEF, 50 times higher than what OPEC is projecting.

None of this portends an imminent conclusion to our fossil fuel age, but it does spell an end to fossil fuels as a juicy long-term growth market. This sentiment has been ratified, sanctified and tallied by the political, moral and financial bellwethers of our time, from the Paris climate talks (195 countries committed to phase out fossil fuels this century) to the Vatican (Pope Francis has made moral invocations to drastically reduce use of fossil fuels) to the Bank of England (the bank’s governor Mark Carney has warned not to get stuck holding a bag of stranded fossil fuel assets).

The implication for pension funds: Focus growth strategies on renewables, not fossil fuels. Some big pension funds are adapting. PFZW, the $183 billion Dutch pension fund, has pledged to halve its carbon footprint by 2020 while increasing its investments in climate solutions fourfold. But most funds aren’t following suit.

This inertia is costing pension fund holders a lot of money. To get a sense of just how much, we ran the Newsweek Green Rankings universe of the world’s largest companies through the Decarbonizer, an interactive tool that determines the financial impact of divesting from carbon-heavy companies. Using that universe as a proxy, we estimated losses over the past three years exceeded $474 billion for U.S. pension fund holders and $757 billion for pension fund holders globally.*

A growing number of insurance companies and some state pension funds have thrown the towel in on their coal stocks, which in most cases were a minor part of their investments (less than 2 percent).  To date, no major pension fund has opted to get out of all of their oil stocks, although the Norway Oil Fund has selectively sold off a handful of its high-cost oil producers.

Even though their value has diminished, oil companies are a major part of the global economy, making up about 7 percent of global equity indices. Selling off such a large chunk of the portfolio could make a bad dent in fund performance if oil prices recover over the short to medium term. While most pension funds are meant to have long-term horizons, compensation and culture makes divesting from oil stocks a possible career risk.

Some investors argue for hanging on to oil stocks to convince them to diversify into green energy—a strategy, albeit appealing, that has yet to come to fruition.

It might seem rich for a pension fund to sell off its oil stocks when everyone is still driving around in cars and burning fossil fuels on an everyday basis. But investors should be investing in a world that will be, not one that was.  

*The starting value was $7.08 trillion for U.S. pension fund public equity holdings and $11.3 trillion for global pension fund public equity holdings as sourced from Towers Watson. The analysis, estimated the potential financial impact had U.S. and global pension funds shifted their investments from the most carbon heavy coal and oil companies to companies that derive at least 20 percent of their revenues from green sources as verified by a credible third party. From there, the total returns over a 42-month period starting on June 1, 2012, were calculated.

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