Fossil fuels as dead as a dinosaur

In 2006 the FCA introduced its ‘Treating Customers Fairly’ initiative.

Here it was highlighted that customer’s SRI preferences should be taken into account when forming appropriate recommendations.

It wasn’t long afterwards that screening, - more so, the right kind of screening - began to form an integral part of a company’s overall investment strategy.

At the moment there are two main approaches to the screening process: negative and positive.

Olivia Bowen, director and financial adviser with Gaeia, an IFA specialising in ethical investment, outlines these two options.

She says: “[There is] negative screening, which means avoiding the companies in which clients don’t want to invest their money, namely the arms trade, nuclear power sector, repressive regimes or tobacco industry.

“Then there is positive screening - where you seek to invest your money in companies whose products or services are of long-term benefit to the communities in which they operate and/or contribute to a better environment, such as progressive companies with strong environmental and employment practices, energy conservation, social housing and community regeneration.”

Hamish Chamberlayne, manager of the £367m Global Care Growth fund and the £195m Institutional Global Care Managed fund, says he makes use of both negative and positive screening within his funds.

In regards to negative screening, Mr Chamberlayne says his funds have no exposure to oil or coal companies.

His funds do, however, positive screen a high majority of their stocks which they check against their in-house ratings systems.

He says: “We run a thematic fund, which focuses on sustainable themes such as; energy efficiency, clean water, knowledge and technology.

“We then look for companies exposed to those themes. We have a very, disciplined, bottom up approach however. We do not do forced distribution. Our ESG themes act as our compass.”

Peter Michaelis, head of equities for Alliance Trust Investments, also takes a more thematic approach when screening his funds.

He says: “We think companies with high quality management have a more predictable financial outcome. Overall a well-managed business is a strategy all companies desire and want.”

However, when it comes to screening, Mr Michaelis says an investment manager may be introducing more problems than solutions.

When we look at negative screening, the selection criteria is cut and dry.

Hence, if you screen out all the companies that produce coal, oil or gas, fundamentally, you are left with a ‘fossil free’ investible index – or are you?

What about automobile manufacturers, cement and steel producers, petrochemicals and so on?

Moreover, how will a manager explain to their trustees or investors if the price of oil suddenly spikes and because of their screen, investors miss out on all the gains of the market by excluding the oil companies?

Global Growth’s Mr Chamberlayne says however with regards to the negative verses positive argument, it is not about a fund manager being either or, but rather the type of stocks you choose to invest in.

He says: “If you do have negative screening there is no reason why you can’t generate performance.

“As you can see the price of coal has gone down drastically over the last five years. Anyone with no exposure to this sector would have performed relatively well. However, I always maintain the primary driver of your fund is what you choose to invest in.”

Indeed over the years the ex-fossil fuel indices have performed quite well comparatively.

The MSCI ACWI ex-FF returned minus 2.47 per cent between November 2010 and September 2015, while the MSCI ACWI delivered a minus 3.9 per cent return.

Thomas Kuh, head of ESG Indices at MSCI, says: “Not owning fossil fuel companies several years prior to 2008 would have hurt performance relative to standard market benchmarks.

“But recent studies we have done, show that since the financial crisis in 2008, our Fossil Fuel exclusion indexes have consistently outperformed their standard counterparts.”

Although positive screening is looked upon favourably, there are some in the industry who question the sustainability of products that adopt this approach.

Gaeia’s Ms Bowen says it is for clients though to decide what feels right for them.

She says: “However, we are careful to avoid funds that may be ethical in name but have serious limitations, such as those named in our Winners and Spinners report 2015 where we uncovered evidence of green washing within the sector.”

However, Stephen Hine, deputy CEO of Eiris, says positive screening allows major companies to take a long, hard look at their future policies.

In this sense, he sense positive screening could also have a lobbying effect.

He says: “When we take positive screening, we look at how these companies are including sustainable practices in their future business strategies. As you can see, BP and Shell have made commitments which, they will now need to follow through.”

Interestingly the talk of engagement and shareholder activism is seen to be highly effective and another approach to screening sustainable investments.

The engagement process involves active dialogue by shareholders to encourage more responsible business standards, whether directly or through meetings including voting at AGMs.

Ms Bowen acknowledges the argument that if you aren’t invested in an industry, such as mining, then you can’t influence it.

However she adds: “But most of our clients don’t want to profit from environmental degradation.

“They may be campaigning against the industry’s actions separately. However, the approach that Aviva has taken is that they don’t run ethical funds anymore, but are trying to ensure all of their billions are invested responsibly, by majoring on engagement and influencing the companies in which they invest to improve standards.

“This is welcome, but on the other hand the recent divestment campaign sends a really powerful message to world leaders and businesses that climate change should not be ignored.”

Divestment: The ‘hit ‘em where it hurts’ strategy, is a tried and tested formula. But is this the right answer?

Mr Chamberlayne said: “I do sympathise, but divestment is the wrong road to take. Once you divest you can’t engage. Although right now there are huge financial risks in being invested in fossil fuels.”

For the moment, a lot rests on the climate discussions set to take place in Paris this December.

Mr Michaelis adds: “There are now very clear trajectories for decarbonizing our economies. The signs are here. We are fundamentally going to change. Right now we are taking advantage of the current climes but we are also looking at the longer term.”