15 June 2010
Is this the environmental disaster that will make capital markets start taking the environmental impacts of companies seriously?
In the same way that the Enron and Parmalat crises catapulted corporate governance into the mainstream investment agenda, could the BP oil spill, and consequent 44% crash in BPs share price, be the trigger to change investment behaviour forever?
A cross party group of UK Members of Parliament (MPs) has already called on parliament to push UK pension funds to do more to manage environmental risk in their investments. Zac Goldsmith (Conservative), Martin Horwood (Liberal Democrat) and Caroline Lucas (Green Party) lodged an Early Day Motion calling on the government to make pension funds report fully on their policy and practice regarding environmental, social and governance (ESG) risks.
The Deepwater Horizon crisis is of course the result of a terrible accident and terrible accidents are impossible to predict reliably. Research providers struggle as much as anyone else in predicting such events; they are not clairvoyants.
However, the extent of the environmental impacts that are associated with the oil industry are well known. An investor response to risks of this magnitude might be to exclude companies such as BP from their investment portfolios, yet as UK pension holders are now discovering, the global economy is highly dependent on the earnings that derive from this industry. Like it or not, it is simply not economically realistic to dramatically underweight this sector in mainstream investment portfolios today. Investors can, however, relatively underweight companies within the Oil & Gas sector which have larger environmental impacts per unit of output than the average for their sector.
Trucost, the global environmental data provider, has been advising investors to do just this by providing comparable quantified data on the relative environmental impacts of companies. BP is underweighted in these strategies, not because it's a large Oil & Gas company, but because it is an environmentally inefficient Oil & Gas company relative to its sector peers.
Simon Thomas, Chief Executive, Trucost comments, "Trucost data shows that BP is 16% more carbon intensive than its FTSE All-Share sector peers and therefore runs more carbon risk per unit of revenue than the average Oil & Gas company. In other words, Trucost clients that use its data to track the FTSE 350 with reduced carbon risk are significantly less exposed to the recent collapse in BP's share price."
It seems the key to the problem is data. There is a lack of reliable quantified data being made available to investors by companies. The result of this is that very many companies that produce ESG (Environmental Social and Governance) research have to rely on the qualitative and partisan communications of companies.
As a consequence, BP is over represented in the majority of sustainable investment indices and investment strategies. In the absence of quantified comparable environmental disclosures, researchers have come to rely on proxies for such information, such as the existence of environmental policies and public proclamations, such as those that Tony Hayward has made regarding the priority he has placed on environmental and human safety. These proxies are demonstrably unreliable, which is why Trucost focuses on environmental performance data.
Reliable, comparable and consistent data is very hard to find. Yet data on the environmental impacts of companies is precisely what is needed if pension funds are to integrate environmental risk assessment into their investment practices and protect their pension savers.