Provided to Regents in both verbal and written form at the Board’s meeting of April 16, 2015
University of Colorado
1800 Grant Street, Suite 800
Denver, CO 80203
Board of Regents:
Kyle Hybl, Chairman
Irene Griego, Vice Chair
Patrick O’Rourke, Secretary
Dear Board of Regents:
Leaving moral arguments and ideological considerations aside, the case in favor of divesting stock portfolios from the securities of fossil fuels companies can be broadly divided into two areas: economics and fiduciary responsibility. Green Alpha Advisors takes the position that the clear preponderance of evidence informing both these elements of asset management favors divestment from the securities of any firm primarily engaged in the prospecting, extraction, refining, transporting or distributing of fossil fuels. Both the economic and fiduciary case stem from our pragmatic investment management orientation.
Fossil fuels, with their high energy density and historical abundance, have in large part brought us to the technologically advanced global economy we live in today. This is not, and cannot be in dispute. And yet, now, the portfolio risks of holding fossil fuels securities over the medium and (especially) long term are increasingly apparent. The primary driver of these risks is that while the costs of fossil fuels are notoriously volatile and tend to trend upwards over time, costs for renewable energies, particularly solar, behave like electronics and other semiconductor-based technologies, and have been trending sharply downwards for decades. Broadly speaking, the intersection of costs between fossil fuels and renewable energies occurred in 2012 or 2013, and from that moment forward, fossil fuels have, and will continue to become, less and less competitive over time. Consider the analysis of industry expert Tony Seba: “Should solar continue on its exponential trajectory, the energy infrastructure will be 100-percent solar by 2030…the only reason for this not to happen is that governments will protect or subsidize conventional coal, nuclear, oil, gas generating stations—even when this means higher prices for consumers.”[i]
Solar PV is a technology, and its past and future cost dynamics will behave like those of a technology -- becoming ever cheaper. Oil is a finite commodity that is expensive to locate, extract, refine, and ship; it and other fossil fuels have had and will continue to have cost dynamics to match: economically volatile and forever affected by the cost of extraction. The economic fundamentals of solar and fossil fuels derived energies are so different, we have suggested that tech and commodities be classified as different, unique investment sectors altogether.[ii]
As a result, many top analysts are predicting the rapid decline of fossil fuels as a portion of the global economy’s total energy mix. Deutsche Bank recently published a comprehensive report[iii] projecting that solar energy will be the dominant source of energy worldwide by 2030, within just 15 years. Not only that, but Deutsche Bank says the solar industry will generate $5 trillion in revenue in that time, while displacing fossil fuels (italics added). Meaning, fossil fuels will be losing market share to renewables from today on. In the same report, Deutsche Bank estimates that the cost of solar panels will continue to fall by as much as 40 percent over the next four to five years. The more solar panels that are installed, the more prices drop; the more costs drop, the more economically competitive solar becomes.
The International Energy Agency (IEA), which has consistently missed their renewable energy projections to the low side, is only slightly more conservative then Deutsche Bank, and has recently written[iv] that "The sun could be the world's largest source of electricity by 2050." Mostly, it says, because of declining costs, and not so much because it can help battle climate change.
In an article titled, “Fossil Fuels Just Lost the Race Against Renewables. This is the beginning of the end,” [v] published this week, Bloomberg Business reported that “the race for renewable energy has passed a turning point. The world is now adding more capacity for renewable power each year than coal, natural gas, and oil combined. And there's no going back… Despite the change in oil and gas prices there is going to be a substantial build out of renewable energy that is likely to be an order of magnitude larger than the build out of coal and gas." In a separate comment [vi], Michael Liebreich, chairman of the advisory board at Bloomberg New Energy Finance, said: "The story should not be how falling oil prices will impact the shift to clean energy, it should be how the shift to clean energy is impacting the oil price."
Indeed. The National Bank of Abu Dhabi recently reported that “Dubai set a new world benchmark for utility scale solar PV costs, showing that photovoltaic technologies are competitive today with oil at US$10/ barrel and gas at US$5/MMBtu.”[vii] At the risk of being repetitive, solar is now competitive with a US $10 barrel of oil in at least one place, and solar is projected to be 40 percent cheaper still in four or five years.
On this point, investor Jeremy Grantham, has written, “The economic establishment is letting us down again. Fossil fuels once brought prosperity - then they brought global warming.” [viii] And, separately, he has noted, “The real oil problem is its cost -– that it costs $75 to $85 a barrel from search to delivery to find a decent amount of traditional oil when as recently as 15 years ago it cost $25. And fracking is not cheap. The fact that increased fracking has been great for creating new jobs should give you some idea: it is both labor- and capital-intensive compared to traditional oil…the potential for alternative energy sources, mainly solar and wind power, to completely replace coal and gas for utility generation globally is, I think, certain.”[ix]
Small wonder then that economists at Bloomberg New Energy Finance are predicting that "By 2030, the growth in fossil fuel use will almost have stopped," and subsequently that, "energy growth will continue, just not fossil fuels' contribution. Investment in new energy capacity will double by 2030. About 73 percent of that investment, or $630 billion annually, will be devoted to renewable energy. [x] We can't help but notice that this will not leave much capital capacity to support the share prices of either fossil fuels or nuclear power firms.
Meanwhile, on the regulatory side, the risks of remaining invested in fossil fuels are no longer going unnoticed. As former SEC Commissioner Bevis Longstreth has written: "...fiduciaries have a compelling reason on financial grounds alone to divest these holdings before the inevitable correction occurs. I'm certain any reputable investment manager, if directed by an endowment to accept that assumption, would agree with this conclusion… Anticipatory divestment in recognition that at some unknown and unknowable point down the road, markets will suddenly adjust the equity price of fossil fuel company shares downward to reflect the swiftly changing future prospects of those companies, however wise today, is probably not yet compelled in the exercise of prudence. At some point down the road towards the red light of 2 Degrees Centigrade, however, it is entirely plausible, even predictable, that continuing to hold equities in fossil fuel companies will be ruled negligence."[xi] (Italics added.)
The IPCC (Intergovernmental Panel on Climate Change) says CO2 emissions must have effectively stopped by mid-century to avoid the worst outcomes of climate change. We as asset managers must recognize that this statement is not a position of ideology but rather represents the reality of avoiding long-term economic disruption. Physics teaches us that two things that cannot coexist indefinitely (in this case a fossil fuels-based economy and a thriving economy, avoiding existential disruption) will not coexist indefinitely. The way that coexistence comes to an end depends on the investment decisions we make today.
Finally, the traditional assumption that divesting from fossil fuels will involve less than competitive firms has now been completely discredited. Myriad studies have demonstrated this (as have, generally, Green Alpha’s investment returns), and, having conducted a meta-study of available research, Morgan Stanley has recently said, “we believe that sustainable investing is simply a smart way to invest, and our review shows preconceptions regarding subpar performance are out of step with reality.”[xii]
In summary, fossil fuels investments, in next economy terms and, indeed, in general economic terms, no longer appear to be the attractive source of risk-adjusted returns they were historically. Our clients, members and other vested parties are increasingly and justifiably asking us what we are doing to address the systemic, potentially catastrophic risk posed by these unstable assets. For us, the answer is simple: we're avoiding them outright.
The Fiduciary Case
Fiduciary guidelines and rules of proper action exist in many places, and can be lengthy and detailed, but their premises and boundaries with respect to portfolio diversification and fossil fuels investments can be distilled into three key points.
Fiduciary Point One: ERISA law specifically spells out diversification as a requirement of upholding fiduciary duty. Case law supports diversification and prudent investment management across all investment sectors. However, in the case of the 40Act and 501c legal language applying to advisors and Non-profit/endowment board members, there are no specific requirements for 100% sector exposure or investment decisions made solely for return maximization (actually, even under ERISA it doesn't specify full indexed broad market exposure, but rather prudent diversification).
Fiduciary Point Two: The fiduciary standards represent two things: a pragmatic set of safeguards that govern investing and an IDEOLOGY about the way we maintain and preserve the public trust by performing a DUTY.
Pragmatically, the standards all talk about using reasonable, well researched, carefully documented and transparent methods for making investments that both protect and grow investments. Most people apply these standards by writing investment policy statements, using outside consultants and following time tested methods for diversifying across asset classes and sectors. From a pragmatic standpoint, if you look at a broader category of the "Energy Sector" there are plenty of ways to diversify exposure in energy without exposure to fossil fuels.
Ideologically the fiduciary standards are about something much bigger. They use substantially the same language to describe the requirements: "Duty, Care, Prudence, Reasonableness" as a way of building trust and protecting institutions and investments so that they will be SUSTAINABLE far into the future. A corporation sponsoring a 401k is a legal entity formed to last in perpetuity. A 501C is an institution created to last in perpetuity. Their time horizon is long... Therefore, a true fiduciary is far sighted and is acting as much in the spirit of the role as in the pragmatic. We believe there is a strong case to be made that fossil fuels investments are a violation of duty as well as poor investment choices and as such a forward thinking fiduciary might in fact choose to omit them as a part of their duty.
Fiduciary Point three: It’s also important to note that nowhere in any fiduciary standard does the phrase "maximize investment returns" come into play. If it did we would see concentrated portfolios or an emphasis on more speculative investments as the norm. Instead the language that is used is "reasonable care." Obviously a part of being a prudent fiduciary is also about managing risk. Fossil fuels have significant embedded risk...beyond denuding our planet of scarce resources, companies in the sector are debt laden and beholden to government subsidies and to supra national and national oligopolies to set prices and manage supply. On this basis we further make the case that fossil fuels are far from free market ideology and in fact represent the opposite. How is investments in them still reasonable or prudent?
Those of us with fiduciary responsibility over participant and client assets are required to seek the likeliest path to competitive risk-adjusted returns appropriate to our clients' risk tolerances, investing time horizon and other criteria. In that light, we submit this testimony to develop a key point: that equities of fossil fuels companies, far from being the relatively secure source of risk-adjusted returns that they were in the past, now represent substantial systematic portfolio risk. That there is no formal fiduciary standard requiring investment in fossil fuels means our path towards best outcomes is clear.
Garvin F. Jabusch
Chief Investment Officer,
Green Alpha Advisors
Director of Marketing,
Green Alpha Advisors
Denali Venture Philanthropy
[i] Jabusch, Garvin, “Tech Energy and Commodity Energy: Different Worlds,” Green Alpha’s Next Economy, February 4, 2015. http://blogs.sierraclub.org/gaa/2015/02/tech-energy-and-commodity-energy-different-worlds.html
[ii] Deutsche Bank, Deutsche Bank’s 2015 solar outlook: accelerating investment and cost competitiveness, January 13, 2015. https://www.db.com/cr/en/concrete-deutsche-banks-2015-solar-outlook.htm
[iii] International Energy Agency, How solar energy could be the largest source of electricity by mid-century, September 29, 2014. http://www.iea.org/newsroomandevents/pressreleases/2014/september/name-125873-en.html
[iv] Randall, Tom, “Fossil Fuels Just Lost the Race Against Renewables. This is the beginning of the end.” Bloomberg Business, April 14, 2015. http://www.bloomberg.com/news/articles/2015-04-14/fossil-fuels-just-lost-the-race-against-renewables
[v] Bloomberg New Energy Finance, “OIL PRICE PLUNGE AND CLEAN ENERGY – THE REAL IMPACT,” December 22, 2014. http://about.bnef.com/press-releases/oil-price-plunge-clean-energy-real-impact/
[vi] University of Cambridge and PwC, Financing the Future of Energy, The opportunity for the Gulf’s financial services sector, March 2015. http://www.nbad.com/content/dam/NBAD/documents/Business/FOE_Full_Report.pdf
[vii] Grantham, Jeremy, “The Beginning of the End of the Fossil Fuel Revolution (From Golden Goose to Cooked Goose),” GMO Quarterly Letter, Third Quarter, 2014. https://www.gmo.com/websitecontent/GMO_QtlyLetter_3Q14_full.pdf
[iix] Wile, Rob, “GRANTHAM: The Great American Shale Boom Is A Dangerous Waste Of Time And Money,” Business Insider, February 6, 2014. http://www.businessinsider.com/grantham-against-shale-2014-2#ixzz3XQTmwjbK
[ix] Randall, Tom, “‘Peak Fossil Fuels’ Is Closer Than You Think: BNEF.” Bloomberg Business, April 24, 2015. http://www.bloomberg.com/news/articles/2013-04-24/-peak-fossil-fuels-is-closer-than-you-think
[x] Longstreth, Bevis, “The Financial Case for Divestment of Fossil Fuel Companies by Endowment Fiduciaries,” Huffington Post Politics, November 2, 2013. http://www.huffingtonpost.com/bevis-longstreth/the-financial-case-for-di_b_4203910.html
[xi] Morgan Stanley Smith Barney LLC, Sustainable Investing’s Performance Potential, April 2, 2015. Quote attributed to Audry Choi, CEO of the Morgan Stanley Institute for Sustainable Investing. http://www.morganstanley.com/ideas/sustainable-investing-performance-potential/