The global climate change train to limit the rise in average temperatures to ‘well below 2 degrees Celsius and preferably to no more than 1.5 degrees by the end of the century’ is heading firmly down a single-line track. Even the Americans who temporarily jumped off under Trump are aboard again with Biden. But while its accelerating momentum is inexorable, as it approaches a major junction there seems to be confusion, indeed disagreement, about the ultimate destination.


For some, particularly hard-line climate change activists and carbon nihilists, the aim of absolutely zero carbon emissions at all is the only acceptable terminus and for whom the arrival date of 2050 is years too late; for others it is the Paris Climate Accord target of net-zero emissions by 2050 which is the destination even if there is further to go beyond that. Using the analogy of Orwell’s Animal Farm, the danger is that in an immensely complex and sensitive environment, for many the debate is no more sophisticated than “four legs good, two legs bad”: “green good, brown bad”.


What does not help is the casual interchangeability of nomenclature, sometimes deliberate, sometimes merely the sloppy use of language, between the terms “zero carbon” and “net-zero carbon”. Whichever, the effect is insidious. They are very, very different. The key is that word ‘net’.


Zero emissions assumes the total elimination of all fossil-based or fossil-consuming processes; not only would this include traditional coal, oil and gas extraction, and oil refining with all its implications for energy production and transport fuels, it would also mean that significant outputs of the petrochemicals industry would have to be replaced including all plastics. Net-zero on the other hand says yes, CO2 emissions must be reduced but allowance is made for those CO2 emissions which remain unavoidable: an equivalent tonnage must be offset or ‘removed’ elsewhere (carbon credits, carbon capture, tree-planting etc). But the fundamental presumption is that a zero-carbon cliff-edge is neither feasible nor compatible with the demands of 21st century economic, political and social systems.


Ahead of COP26, the global climate policy forum in Glasgow this autumn with the UK in the chair, expectations for further change are rising. President Biden’s new climate envoy, John Kerry, has already labelled it “the last chance to save the planet”. It is notable just how much faith is being placed in this summit to deliver (bearing in mind its forerunner, COP25 in 2019 was dominated by the phenomenal political effect of Greta Thunberg); the spotlight has particularly been thrown on Glasgow thanks to many western governments explicitly linking Covid economic recovery packages to the acceleration of green infrastructure plans. The green project has been turbocharged.


From an investment standpoint, the green revolution presents significant opportunities. But every revolution has its casualties. The most obvious so far has been the coal industry. Now oil is firmly in the crosshairs. While the global oil companies and the oil ‘majors’ in particular (otherwise known as the ‘integrated’ companies, their activities stretch all the way from up-stream exploration and extraction, to mid-stream refining, moving downstream to wholesale distribution and service station retail, they include such names as EXXON, Chevron, BP, Shell, Total and others) have been some of the biggest, most successful and most enduring companies in history, the most reliable payers of dividends, they are now under concerted threat.


Investors have always been free to invest according to their principles and consciences, regardless of under what badge such investing has taken place over the years (ethical; SRI; ESG etc). But the deep politicisation of the climate change debate adds new dimensions. Just in the US in the past two weeks, President Biden in addition to re-committing the US to the Paris Climate Accord, has issued Executive Orders for the abandonment of the half-complete US/Canadian oil pipeline and declared that there will be no new drilling licences issued for Federal-owned land or waters. In the UK, a group of 50 MPs has written to the Bank of England demanding that the green bond element of its QE programme should specifically exclude any benefit to oil companies.


Going further back, warning about the risks posed by climate change to the banking and insurance sectors, the then Governor, Mark Carney, highlighted the risks to lenders and insurers of oil companies’ ‘stranded assets’ and the potential vulnerability of their balance sheets should those oil reserves prove significantly less than stated, or even worthless (while highlighting the risks for the right reasons, Carney’s motives were called in to question when, after leaving the Bank, he was immediately appointed the United Nations Climate Change Ambassador). The UK Pensions Regulator has issued warnings to pension fund trustees about their over-reliance on oil companies as significant sources of dividend income; it is a brave trustee who takes a different view, however considered. In Europe Christine Lagarde has also raised climate change policy to the top of the ECB’s strategic agenda, explicitly aligning it with the Paris Accord and the European Green Deal with the emphasis on facilitating the finance of green projects through green bonds while particularly highlighting the risks to banks of lending to legacy industries. This is all leaving aside institutions such as colleges and trust-and-grant charities being persuaded or leaned upon to abandon investing in certain companies and sectors, including oil.


The travails of the industry itself aside, since 2014 when the oil price hit its all-time high before two significant bouts of volatility, first due to slackening Chinese demand and more recently Covid, the longer-term effect of the factors described above is pernicious. As many investors drift away, filing oil in the ‘too difficult’ bucket, remaining capital providers and lenders need a higher rate of return (a risk premium) on their investment to compensate. The International Energy Agency (IEA) estimates oil demand to peak in about 2030 after which it will be downhill. But will it be a managed decline, or chaotic? Reality will be determined by a combination of political and populist pressure balanced by the extent to which new energy, motive and materials technologies can be successfully developed to replace those provided by fossil-based materials now, all the while keeping people and goods supplied and moving at a reasonable cost. While electric technology is already provenly viable for road vehicles (even if the infrastructure is not currently there to support it as a workable mass-transportation system) fully switching from petrol/diesel will take at least a decade beyond the date that the sale of new combustion-engine vehicles is banned (2030 in the UK, one of the earliest); in the absence of workable solutions, air and maritime transport will continue to rely on oil-based fuels for the foreseeable future.


In context, world crude consumption is currently 100m barrels per day, forecast by the IEA and others to reach 110mbpd in 2030; even if all the world’s hydro-carbon fuelled passenger vehicles and trucks were removed, global oil demand would still be in the range of 70-80mbpd. The danger is that if the oil companies’ cost of capital is pushed up excessively by the risk premium, over and above the sustainable returns companies are able to make, long-term decline and eventual extinction are virtually assured even if future needs are not able to be met.


Then there are the geopolitical effects. For a century, national ownership of oil reserves has conferred political power and leverage (or conversely posed a national threat from those who have designs on your assets!); undeniably in some cases it has fostered widespread corruption. Even if not wholly dependent on oil revenues and many have already frittered away the economic benefits, the fortunes of some are highly sensitive to the industry’s prospects: Russia, Nigeria, Algeria, Libya, Venezuela, Iran and Iraq, a number of the Gulf states to name but a few could potentially see their prospects alter with significant consequences.


No company or industry has a God-given right to survive. However, swap the word ‘energy’ for ‘oil’ and the possibilities for the oil sector take on a different perspective. Surely these global oil companies should be part of the solution to future energy and fuel needs rather than purely perceived as the problem. The managements of the big oil companies recognise the existential threat to their businesses; if they haven’t already (and many including BP have), most are turning their investment attentions towards renewable, sustainable energy development and are committing significant capital. Critics point to the sums as miserly compared to the capital invested in their current ‘legacy’ technology and assets. But in nominal terms they add up to significant amounts: BP alone, for example, is budgeting $5bn pa investment to achieve an installed renewable capacity base of 50 gigawatts (gw) by 2030; ENI (Italian) plans 55gw by 2050, Total (France) 30gw by 2025; there are many others. These figures are meaningless without context: Drax, the UK’s largest power station, has a generating capacity of 3.9gw; marginal capacity added to the entire UK renewable energy fleet (encompassing all renewable sources) in 2020 totalled 1.2 gw. Far from being stigmatised and demonised, arguably such companies should be positively encouraged, incentivised even, to help the transition. It is too important to get wrong!


The Jupiter Merlin Portfolios are long-term investments; they are certainly not immune from market volatility, but they are expected to be less volatile over time, commensurate with the risk tolerance of each. With liquidity uppermost in our mind, we seek to invest in funds run by experienced managers with a blend of styles but who share our core philosophy of trying to capture good performance in buoyant markets while minimising as far as possible the risk of losses in more challenging conditions.

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