Investors should look to climate change strategies, says paper

Apr 24, 2019
Investing in green energy companies will mitigate risk of climate change

Investors should be looking to allocate to climate change strategies, given the risks posed by climate change and the potential benefit from these adjustments, observes a new paper by Boston-based asset manager GMO.

GMO co-founder Jeremy Grantham and portfolio manager Lucas White write that climate change has become a major risk to the global economy but investing in green energy companies that mitigate this risk will pay off as demand for their products and services will rise.

The opportunity here for equity-style gains, inflation protection and diversification are a mix that will appeal to investors, note the authors.

The world is ‘rapidly approaching a time’ when it will be forced to act to make up for decades of inaction on what is an existential threat, they write. This in turn will mean high growth and – potentially and crucially – strong returns in the sector. 

In short, Grantham and White see the environmental crisis as a way to buy faster-growing companies at a lower price. ‘Many investors believe it’s somewhat paradoxical to buy ‘cheap’ stocks in a growth universe,’ they assert. ‘If we can continue to own a portfolio of companies trading at a discount without sacrificing growth, we believe we can generate strong performance over the long term.’

Putting theory into action, since its inception in April 2017 the earnings growth of the GMO Climate Change Strategy has been higher than the MSCI All Country World Index, according to the paper. ‘Outside of global equities, the most natural home for a climate change strategy for many portfolios may be in the real assets allocation,’ White and Grantham write. While investors may also carve out room for the strategy within their ESG allocations, the authors add that ‘the most interesting framing’ may be to consider climate change investing as an insurance uptick.

‘There’s a significant risk that climate change will have a considerable, unpleasant economic impact,’ the authors note. ‘It seems reasonable to think investors would want to protect themselves from this risk, and investing in a climate change strategy would be a good start.’

The paper cites the Fourth National Climate Assessment, the US Congress-mandated report on climate change published in November last year, which concludes that climate change is expected to cause substantial damage to the US economy throughout this century.

A shift to clean energy will, therefore, involve investment and time, White and Grantham write, estimating that trillions of dollars will be needed to decarbonize the economy and overhaul energy grids. ‘Fortunately, by investing in the clean-energy solutions that compete with fossil fuels, one can maintain that exposure to traditional energy prices,’ they note.

If prices of damaging fossil fuels rise, clean energy becomes more competitive, speeding up the transition to a clean energy infrastructure reliant on materials such as copper, lithium, nickel and cobalt. ‘Because of the indirect exposure to fossil fuel prices and direct exposure to clean energy materials, agriculture, water and infrastructure, we believe the climate change sector, as we’ve defined it, will perform well in certain inflationary environments,’ White and Grantham write. 

They advise investors to come up with a strategy to benefit from the winners in the climate change battle:  ‘It’s up to investors to figure out how a climate change strategy fits into their particular investment process, but we expect it will be worth the effort.’

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