The Biggest Risk for Resource Investors

Today’s Markets and Money comes with a warning label. A trend is brewing — and if you have resource stocks in your portfolio, you need to pay attention.

The last thing you want is to wake up and find the value of them cut in half. But that’s the risk right now, and besides Phil Anderson and myself at Cycles, Trends and Forecasts, I don’t know anyone else talking about it.

The problem isn’t the current low price of commodities. It’s whether the value of some of these commodity assets will ever be realised at all.

What am I on about? Well, did you see the news about Sydney University yesterday? The Australian Financial Review reported:

‘The University of Sydney will cut heavy polluters and some fossil fuel companies from its $413 million share portfolio in a bid to reduce the carbon footprint of its investments by 20 percent over three years.’

Now, to be fair, the university isn’t looking to dump a bunch of stocks on the market tomorrow. It’s looking to, for want of a better word, ‘model’ an ideal portfolio of companies that taken as a whole meet their carbon target.

It also must be said that in the context of Australia’s share market, the uni’s $413 million is chicken feed. But it’s another move from a series of institutions and funds that are looking to divest their holdings of fossil fuel companies, especially coal, and, to a lesser extent, oil.

Australian University sold $16 million worth of shares in seven resource companies last year. Over in the US, the $21.4 billion endowment fund of Stanford University has already announced it will divest from coal and is coming under pressure to sell off its oil and gas holdings.

Just last Friday, over in the UK, The Guardian reports that the Norwegian Sovereign Wealth Fund removed 32 coal mining companies from its portfolio in 2014, citing ‘the risk they face from regulatory action on climate change’.

The fund let go of 114 companies in total, including tar sands producers, cement makers and gold miners. The Guardian also reports that, ‘As part of a fast-growing campaign, over $50bn in fossil fuel company stocks have been divested by 180 organisations on the basis that their business models are incompatible with the pledge by the world’s governments to tackle global warming.


A quick aside here: it pays to watch where the money is flowing instead. The Norwegian Sovereign Wealth Fund, for example, announced in August last year that it plans to invest more than 1% of its value in real estate each year through to 2016.The fund’s target is that 5% of its cash should be held in real estate. That’s just one more reason to be bullish on the real estate cycle.

But back on topic…It was only in December last year that Australia’s Foreign Minister Julie Bishop was in Peru for ‘high level UN negotiations’ designed to lay the foundation for the next major climate meeting in Paris this year.

Here’s the key thing for you as an investor: fossil fuel companies are valued on their in-ground reserves. If regulation restricts these companies from exploiting these reserves, then trillions of dollars of value could drop to zero.

That’s why Axa Investment Managers, one of Europe’s biggest asset managers with $495 billion under management, warned in January that companies linked to fossil fuels face ‘the divestment movement steadily gaining traction amongst investors across the globe’.

Climate change is a heated topic. Before you write in and explain your take on the issue, take heed of the fact that the market doesn’t care what you or I think.

If enough people decide to offload their holdings in coal companies, for example, simple supply and demand tells you that there’ll be more sellers than buyers and you’re on the wrong side of the trend (if you own coal stocks). Personally, when the crowd is going one way, I don’t stand in front of them to get run over.

Having said that, there is still strong real world demand for fossil fuels. In fact, I was chatting with oil analyst Byron King the other week, and he believes this divestment movement is purely a ‘rich’ world movement and that developing countries want all the fossil fuels they can get.

That means those offloading the stocks are just selling to fund managers with a commercial —not environmental — mandate. And even if one country banned coal mining, who’s to say another wouldn’t ramp up production?

I don’t know how this will play out any more than you do. But who needs the additional stress of trying to unpick all the vested interests in this matter? Plenty of other industries offer profitable investment opportunities.

I do think more and more funds will follow this lead, especially as people begin to make a conscious choice in allocating their investment money to ‘green’ and ‘ethical’ funds. You can’t put your head in the sand on this one. Divestment programs are happening.

And if governments do start requiring reserves to stay in the ground, investors will move money out of the resources sector. This would add to the potential of real estate, the one asset class the government never meddles with.

It doesn’t take a genius to think that anything associated with green technology could catch the eye of the crowd and drive associated stocks to the roof. It might pay to start building a watch list. Something tells me we could see a ‘green mania’ that could play out similar to the internet boom of the nineties. Stay tuned.


Callum Newman,
for Markets and Money

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Originally graduating with a degree in Communications, Callum decided financial markets were far more fascinating than anything Marshall McLuhan (the ‘medium is the message’) ever came up with. Today Callum spends his day reading and researching why currencies, commodities and stocks move like they do. So far he’s discovered it’s often in a way you least expect.

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