Is Shunning Coal a Good Policy for Capital Markets?
As regular readers will be aware, at TwentyFour, we are increasingly taking a keen interest in developing trends within the ESG theme. We felt it was worth expanding on the recent news that Australia's Macquarie Bank announced it would stop financing all coal projects by 2024.
Macquarie's coal exposure had been falling for the last four years; its current value of A$100m is half of last year's and small as a portion of their total balance sheet. However, given the importance of mining to the Australian economy, this is a noteworthy stance. Macquarie is just the latest in a series of global banks who have bowed to pressure to withdraw support for coal financing. These developments have become so substantial that Australia held a parliamentary inquiry this year into the long term financial risks associated with reduced coal lending. Centennial Coal Co neatly captured the motivations for this shunning with the phrase "grief to income ratio."
The context to these decisions is an increasing proportion of investment mandates falling under some form of ESG umbrella. There is currently $1.6trn invested in funds with an ESG label, and beyond that, over 70% of institutional investors have adopted some form of specific ESG policies. Even indirect exposure to activities that fall foul of ESG expectations is increasingly considered a barrier to obtaining financing. Thus clients, shareholders, and debt investors are exerting significant pressure on banks to exit polluting businesses.
For now, oil and gas remain much better supported – Macquarie, for instance, noted as part of this announcement that they remain committed to the sector. "As countries make the transition to net-zero, we recognise that much of the world will depend on oil and gas to power economies and that until new, commercially viable technologies become available, these fuels will have a continued role in the provision of essential energy." But is it inevitable that investor attention is negatively directed towards oil companies in the years ahead?
Macquarie's stance can be touted as a triumph for climate activism but does bring risks. A reduction in the supply of financing to coal miners will raise their cost of capital. In a world flush with liquidity, it's hard to see an impact on credit spread levels yet, but there is undoubtedly evidence of a negative effect on stock prices. This weekend's Financial Times commented on the high dividend yields of miners' stock prices despite their recent profitability and lack of re-rating as commodity prices have risen - "Commodity markets might be gripped with supercycle optimism but the sector remains relatively unloved in valuation terms."
Even for funds that do not consider ESG factors, assessing a company's access to capital is always part of a credit analysis methodology. The position adopted by Macquarie may be the beginning of a negative spiral that completely cuts off access to public equity and bond markets for miners, leaving them unable to carry out infrastructure investments and likely valued at distressed levels. As long as coal usage is not illegal, a private buyer of any origin will be able to purchase these assets cheaper and run them for as long as possible with no regard for ESG matters. This is an example we previously discussed in our white paper
ESG at TwentyFour – Integration and Engagement
. The non-engagement of capital markets may actually leave the environment in a worse position than before.