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Fossil Fuel Divestment: A $5 Trillion Challenge or Opportunity?

Skeptics dismiss divestment as a peripheral threat to fossil fuel’s dominance, but it’s a major opportunity in the fight to decarbonize our society and slow the expanding impacts of climate change.

In theory, divestment works. As emissions keep climbing and climate legislation nears, moving investments away from fossil fuel stocks that have historically provided stable returns (but risk becoming stranded assets), toward clean energy technology that has historically been risky (but become safer investments every year) looks like a no-brainer. 

In practice, at least so far, divestment has proven tricky. Fossil fuels are the vast majority of energy investments and their associated business risks vary by commodity, so in order to capture the potential shift of money, renewable investment options must expand exponentially.

So says Bloomberg New Energy Finance’s new white paper “Fossil fuel divestment: A $5 trillion challenge,” which outlines divestment’s probable winners and losers, challenges faced in scaling up the movement, and recommendations to move toward a low-carbon financial future.

Divesting To Avoid The Carbon Bubble

Following in the footsteps of previous moral imperative campaigns like Apartheid and tobacco, divestment urges major investors to remove their money from fossil fuel stocks and reinvest them in low-carbon stocks like renewables or information technology.

Progress has been fast – especially among religious organizations, institutions of higher education, and public health associations. In fact, Oxford University recently reported fossil fuel divestment was spreading faster than any previous similar campaign, even Apartheid. To date, investment risk for these early movers has been less than 0.01% – “statistically, it’s basically noise,” reported a 2013 analysis of college endowments.

While small liberal arts colleges with small endowments were the first to announce divestment, bigger institutions have jumped onboard. Consider Stanford’s announcement it would divest coal from its $18.7 billion endowment, the World Council of Churches’ exclusion of fossil fuels from its investment portfolios, and growing sentiment among global public health officials to divest for human health reasons.

There’s a financial reason for this movement – divestment is an opportunity to head off the carbon bubble threat from billions of dollars in proven fossil fuel reserves (which form the base of their market valuation) being eviscerated by emissions reduction regulation. One recent study estimated the world’s 20 biggest oil projects alone place up to $1.1 trillion of investor money at risk, and in 2013 financial services provider HSBC warned up to 60% of total oil and gas industry market capitalization is at risk.

How Long Can Fossil Fuels’ Dominance Last?

But even with these gains, fossil fuel divestment’s challenge is significant. BNEF ranks oil, gas, and coal companies as one of the world’s largest asset classes, with $5.1 trillion in current stock values. Many of the world’s largest investors and governments are heavily intertwined in these fossil fuel assets, and fossil fuels have historically provided a more complete investment package and stable returns than other classes.

However, it’s naive to assume this situation will continue into perpetuity. Atmospheric concentrations of carbon dioxide are higher than they’ve been for hundreds of millions of years. With every year, the planet keeps getting hotter, the seas keep rising, and our weather gets more extreme. Eventually, we’ll have to cut emissions to maintain our way of life.

Some say this transition has already begun. Nations and regional governments from China and European Union, to California and Quebec, or the Northeast United States have operational carbon markets with international linkages between systems expanding every day.

It stands to reason then, that stocks of the dirtiest fossil fuel are also the ones set for the biggest dive. While coal represents roughly $230 billion in value across 275 companies, they have fallen fast – since 2012 coal stocks lost half their indexed value. BNEF pegs several factors for this decline, including lack of geographic diversity and dependence on mineral extraction rights, and condensed risk – the top 25 coal firms make up 77% of the sector’s market cap.

Fossil fuel stock performance graph 

That’s a far different outlook than what faces oil and gas, reasons BNEF. Oil companies sell a product in near-universal demand closely linked to global economic growth, and electric vehicles or biofuels are nowhere near the market share needed to supplant petroleum. The shale boom has vaulted cheap natural gas to the top of power generation output, and it was already essential to industry and agriculture.

Clean Energy Needs Scale To Capture Funds

Conversely, clean energy is ascending as an investment opportunity. BNEF forecasts $5.5 trillion in renewable energy investment by 2030, with half coming in the next ten years. But if divestment is to succeed, additional financial vehicles will have to be created for institutional investors and their large amounts of capital.

renewable investment

“The marginal, disinterested institutional dollar does not automatically flow from an international oil company to a solar manufacturer…the marginal dollar may find a more logical home in another trillion-dollar equity sector such as information technology,” says BNEF. 

And while clean energy has gotten cheaper and more widespread, the sheer size of the industry simply isn’t big enough to accommodate the capital fossil fuels represent – the entire universe of clean energy equities, according to BNEF, is 106 companies with a total value of $220 billion. Investment vehicles like YieldCos and green bonds have accelerated over the past decade, but total YieldCo market cap is $16.4 billion and even though $40 billion in green bonds could be issued in 2014, it’s still a sliver of the $1.4 trillion in total corporate bonds issued in 2013.

green bonds

Possible. But Probable?

Add up the combination of a growing climate imperative, advancing carbon reduction systems, and the potential for stranded assets to burst investor portfolios, and divestment seems more and more appealing – but no sure thing. “Fossil fuel divestment is neither imminent nor inevitable,” says BNEF’s report. “But, neither is it impossible for motivated investors.”

If clean energy can continue to expand, fossil fuel divestment may wind up succeeding. “The $5.5 trillion needed to build out clean energy through 2030 will offer many new opportunities for investors,” said Nathaniel Bullard, report lead author. “But a major switch into that and out of fossil fuels would require a massive scale-up of new investment vehicles.”

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