Hopes are running high that a ground-breaking agreement to curb greenhouse-gas emissions could be reached at the upcoming United Nations Climate Change Conference in Paris. Ahead of this ....
Christophe Bernard, Chief Strategist Vontobel
Market Comment - November 03, 2015
summit starting in late November, we are taking a look at how portfolios might be negatively impacted by policy makers’ efforts to curb man-made emissions – and boosted by the focus on innovative companies helping to fight them.
Climate change has become a pressing global issue, now even drawing extensive comments by the Pope Francis in the most recent encyclical letter:
"The climate is a common good, belonging to all and meant for all. At the global level, it is a complex system linked to many of the essential conditions for human life. A very solid scientific consensus indicates that we are presently witnessing a disturbing warming of the climactic system. ( … ) Humanity is called to recognize the need for changes of lifestyle, production and consumption, in order to combat this warming or at least the human causes which produce or aggravate it".*
Chart 1: China behind most energy-related CO2 emissions worldwide
Source: Thomson Reuters Datastream, Vontobel Asset Management
The world’s biggest polluters, the United States and China (see chart 1), appear to increasingly share his concerns. If the two countries’ recent softer stance on climate issues is any guide, we are at an inflexion point. Giving up their long-standing defiance, both governments have admitted that man-made emissions probably have a destabilising impact on the climate. It is these issues that the climate conference in the French capital will address, and "Paris" could well herald a new era of serious efforts to slow down the rise in temperature over the coming decades.
Critically, policy and regulation will promote "clean" technology while discouraging carbon emissions (see chart 2). This will have far-reaching consequences for society, countries, economic sectors and not least, market participants. Mark Carney, the Governor of the Bank of England, recently warned that investors face "potentially huge" losses from climate change. Referring to the valuation of oil companies, he said that the possibility of some of their oil reserves remaining unexploited may not be adequately reflected in the share prices. This would be an unsettling scenario not only for ExxonMobil, BP or Total, for example, but also for pension funds and private investors given the large weighting of oil majors in equity indices. By the same token, countries relying on fossil-fuel revenues will face serious long-term challenges with potentially dire consequences for their credit ratings and currencies if they fail to adopt a proper diversification strategy in good time.
Chart 2: Fast rise in man-made emissions since 1950
(in gigatonnes of CO2-equivalent per year)
Source: Intergovernmental Panel on Climate Change, Climate Change 2014 Synthesis Report, Summary for Policymakers
Low-carbon economy as a powerful investment trend
A reversal in policies can have an immediate effect on entire industry sectors and hence portfolios: during this summer, a new US climate plan unexpectedly hit shale gas as the White House gave up its previous enthusiasm for natural gas as a cleaner alternative to coal, focusing instead on "renewable" energies as a means of cutting power plants’ greenhouse-gas emissions. The transition towards a lower-carbon economy is becoming a powerful trend. The International Energy Agency has estimated that limiting global warming to acceptable levels will require additional "clean"-energy investments of around 1 trillion US dollars annually. Market participants should therefore seek exposure to companies poised to benefit from this long-term shift. Conversely, investors should review their holdings in companies and sectors that are likely to be on the losing end of this "megatrend".
Some profit taking amid market recovery
Moving to global markets, the European Central Bank’s dovish tone and further easing by the People’s Bank of China have boosted equity prices. We have used the recent bounce to take some profits, reducing our equity exposure to neutral levels. On the one hand, corporate earnings remain under pressure across geographies, especially those of companies exposed to global trade and manufacturing; on the other hand, central banks remain highly accommodative, providing strong support to risky assets. Overall, disinflationary forces and downside risks to global growth – mostly stemming from emerging economies – remain prevalent, forcing monetary authorities to maintain accommodation for longer than expected. As a consequence, we have added to our position in US government bonds with very long maturities. In our opinion, 30-year Treasuries offer effective diversification, a positive yield compared with most alternatives and limited downside risk given the steepness of the yield curve (see chart 3).
Chart 3: "Ultra-long" US government bonds offer compelling yields
Source: Thomson Reuters Datastream, Bloomberg, Vontobel Asset Management
* Encyclical Letter Laudato Si’ Of The Holy Father Francis On Care For Our Common Home, excerpt from chapter 23, 24 May 2015