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John Engle
John Engle
Articles (474) 

2020 Value Play: Fossil Fuel Divestment Creates Rare Opportunity

As BlackRock and other big asset managers shed their coal and oil exposure, patient value investors are poised to grab real energy bargains

February 13, 2020 | About:

Last month, BlackRock Inc. (NYSE:BLK), an asset management firm with nearly $7 trillion under management, announced it would, as part of its new climate-focused strategy, divest from its extensive thermal coal assets. As I discussed previously, this decision was based on CEO Larry Fink’s belief that the investment landscape is changing in fundamental ways that will make holding significant fossil fuel assets untenable in the long term.

Despite Fink’s verbal urgency, however, BlackRock is moving slowly to divest from its coal assets. Additionally, the broader trend toward divestment embodied by BlackRock’s actions could actually end up creating a tremendous opportunity for investors undisturbed by supposedly “dirty” industries.

Slow and steady

While BlackRock has pledged to divest of its coal stocks, it will not be a rapid process. The process of divestment must be somewhat plodding of necessity, as Wharton professor Cait Lamberton told Bloomberg on Feb. 10:

“BlackRock, because of its sense of fiduciary duty, is going to move fairly gradually. That’s not going to be satisfying to activists, and we’ll have to wait and see if that will be satisfying to the planet.”

No asset manager of BlackRock’s size could rapidly unwind such a large and varied portfolio of coal assets as it now has without incurring significant losses. Still, the fund giant has shown signs of progress towards its stated goal. During the course of 2019, the company cut its holdings in Peabody Energy Corp. (NYSE:BTU), the biggest U.S. coal miner, by 14%. It still holds a 5% stake in the miner, but this is set to dwindle significantly over the course of 2020.

BlackRock appears to be making slow and steady progress toward unwinding its coal positions. Not all of its funds are divesting yet, but it seems only a matter of time. Moreover, Fink may begin to flirt with taking his paring knife to BlackRock’s expansive oil and gas portfolio ere long.

Mounting pressure to divest

BlackRock is the latest name to talk about divesting from coal, oil and gas, but it is far from alone. The divestment trend has been gaining steam with remarkable vigor. Indeed, an international coalition of investment companies, including 600 money managers with a collective $37 trillion in assets, has committed to taking more vigorous action on climate change. Thus far, BlackRock has balked at joining this growing coalition, but the pressure continues to mount.

Lately, exchange-traded funds have moved increasingly into environmental activists’ crosshairs. BlackRock, as a manager of trillions of dollars in passive funds, has been an obvious target of their ire. In a December interview with the Financial Times, former U.S. vice president turned climate change evangelist Al Gore (Trades, Portfolio) was unequivocal in his criticism of the slow progress among passive managers on the subject of divestment:

“I think the large passive managers have a real difficult decision to make. Do they want to continue to finance the destruction of human civilisation, or not? Their model makes it difficult for them to execute some of the strategies that active managers have available to them, I understand that. They are trying, they are not succeeding yet.”

That sort of attitude, once relegated to the political fringe, has quickly entered the mainstream of public discourse – and financial management.

Diamonds in the oily rough

BlackRock’s actions have added to energy investors’ uncertainty. However, fossil fuels are not going anywhere soon. In fact, it remains far from certain that humanity will ever be able to do away with them entirely. That fact will not necessarily prevent significant divestment among fund managers and private investors, however.

Ultimately, a broad move toward cutting coal, oil and gas out of portfolios and funds may create opportunity. Widespread divestment would likely put significant downward pressure on energy stocks, which could prove to be a blessing in disguise for value investors. If fossil fuel stocks are depressed by public distaste, they might well present a highly attractive income opportunity.

Energy stocks are likely to suffer the slings and arrows of public anger in the years ahead. Yet, for seasoned value investors and contrarians willing to get down in the muck where others refuse to tread, they may prove very attractive indeed.

Verdict

The opportunity to buy high-quality energy stocks at a steep discount will undoubtedly prove attractive to those investors who focus exclusively on financial returns and are willing to hold their noses and buy stocks that others might consider “sinful” in some way.

However, calculating when the bottom will come in is a much more challenging problem. It seems likely there will be considerable downward pressure on even the best energy stock names over the next several years due to sustained large-scale divestment.

Patience will be key. Buying a “bargain” before it bottoms (or gets near to it, anyway) is not much of a deal.

Disclosure: No positions.

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About the author:

John Engle
John Engle is president of Almington Capital - Merchant Bankers. John specializes in value and special situation strategies. He holds a bachelor's degree in economics from Trinity College Dublin and an MBA from the University of Oxford.

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