Most of the coal reserves on corporates’ balance sheets will never be extracted meaning they are worthless. This has implications for people’s retirement savings, writes John Berry.
Westland’s mayor Bruce Smith recently rallied against proposed restrictions on West Coast coal mining, telling Radio New Zealand “coal is a critical part of how we live every day”.
It’s easy to understand the angst. Coal is to the West Coast what oil is to Taranaki, where the government’s decision to shut down new exploration was met with similar claims.
No one wants uncertainty, but we need to face facts: Coal mining is finished, it’s just a matter of when, and it has implications far beyond Westland. KiwiSaver schemes invest in coal and other fossil fuel companies, and this issue is something people should consider when investing their long-term retirement savings.
Mayor Smith is correct to the extent that coal is currently an important resource for the country. It’s an essential ingredient in steel making and it fires industry, including 40% of Fonterra’s milk processing capacity and the country’s cement plants. It is also an important source of heating for schools and hospitals.
But the ground is rapidly shifting for both Westland and those companies using coal. Government regulation globally is increasing public attention on air quality and carbon emissions. Consumer pressure is forcing users of coal to find alternatives. Indeed, mindful of potential brand impact from burning coal and potential financial impact from emissions regulations, Fonterra is targeting net zero carbon emissions by 2050. Meanwhile the cost of renewable energy alternatives keeps falling while efficiency keeps improving.
Such pressures are forcing dramatic change for coal producers and their markets. According to the London-based think tank Carbon Tracker, as much as 42% of global coal capacity is already unprofitable and by 2040 that figure will rise to 72%. Meanwhile, by 2030 building renewable energy plants will be cheaper than 95% of today’s existing and planned coal-fired power plants.
The change is underway even in places such as the US where President Trump’s efforts to revive the coal industry have done little to arrest the decline. US coal consumption is now 5% lower than it was when Trump took office.
The majority of New Zealand’s vast coal reserves will simply not be mined from the ground. In fact, most coal and oil reserves recorded on the balance sheets of global fossil fuel companies will never be extracted. Over time these assets will become ‘stranded’ and worthless, which in turn will hit corporate valuations.
Over the next decade fossil fuel companies will start to look like clothing stores holding out-of-fashion stock they can’t sell and are forced to write off.
Sophisticated offshore investors such as the Swedish Central Bank and Norwegian Sovereign Wealth Fund have done the math and are dialing back their exposure to investments connected to fossil fuels. Banks such as BNP Paribas, HSBC and Royal Bank of Scotland are pulling back from lending on fossil fuel projects, particularly coal.
Meanwhile renewable energy companies are on the up, with wind and solar energy getting cheaper as the technology improves. This is reflected in investment returns. Shares in US-listed First Solar, SolarEdge and Vestas Wind Systems are all up over the last year. By comparison oil majors Exxon Mobil, BP and Shell have seen their share prices flat or down.
Ironically it is into this environment that Saudi Arabia’s state-owned oil company Saudi Aramco, which owns 20% of the world’s oil reserves, is undertaking the world’s largest initial public offer.
There is a strong argument that it should be avoided as an investment because of human rights issues alone. However, arguably, it should also be avoided by long-term investors because the future is bleak for the fossil fuel industry.
Aramco tacitly acknowledged as much in the documents for its initial public offer, declaring that demand growth for petroleum products would level off in 2035 due to the increasing availability of alternative energy sources.
Buying Saudi Aramco now could be like the decision of institutional investors who bought the Yellow Pages for more than $2 billion, just as the internet and Google were taking off. Within a few years of Telecom selling the business directory and under the relentless assault of Google, the organisation was quickly at the mercy of its lenders.
Long-term investors should acknowledge the new reality fast approaching for oil and coal companies. Westland and Taranaki have no choice but to do the same.
John Berry is chief executive of Pathfinder which runs the CareSaver KiwiSaver Plan. CareSaver does not invest in fossil fuel companies and reports the carbon intensity of its portfolio.
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