UK Edition
The irony about “ethical” investing is that its advocates will end up making shareholders in oil companies richer.
We are already seeing at the petrol pumps what happens when resurgent demand meets constrained supply. What is less obvious is how the rise of “ESG”, the in-vogue expression for ethical investing that takes in environmental, social and governance concerns, will entrench those shortages for, in all probability, the remainder of fossil fuels’ involvement in meeting our energy needs.
Why? Because the influence of ESG, which has multiplied in the past couple of years and seems certain to grow stronger still, is breaking down the normal free-market workings of supply and demand. In the past, the price mechanism worked its magic to keep supply and demand broadly in balance over the course of a cycle.
If a growing economy led to more demand for oil and gas, the immediate effect was for prices to rise. High prices encouraged investment in new sources of supply but the industry often overreacted, so that shortages turned into gluts and prices fell. Investment in new supply then dried up, to sow the seeds of the next shortage.
These dynamics played out with a time lag, as it takes years for a new oil well to start to produce. But now the natural urge on the part of the fossil fuel companies to invest in new capacity when prices are high is being throttled by the clamour for “responsible” investing. As more and more fund managers espouse ESG principles, the pool of capital available to support investment in new oil and gas supply is shrinking.
It’s not just that the fossil fuel giants would struggle to raise new funds in the City or on Wall Street: the ESG movement also puts pressure on them not to reinvest their own profits in new exploration. Capitalism is dying in the oil and gas sector.
Meanwhile the world needs energy and, despite the rapid rise of greener sources, about 80pc still comes from fossil fuels. The inability of the companies that produce them to increase supply – or perhaps even to maintain it, in view of the fact that wells have a finite life – will guarantee that prices remain high and that these companies will make enormous profits.
Were the normal market-driven cycle of investment and retrenchment able to continue, we would expect alternating periods of feast and famine. Thanks to ESG’s effective veto on new exploration, we can look forward to uninterrupted feast.
What will the oil companies do with all this money they will make? Some will be used to reduce their debts, some to invest in green sources of energy so that they have a future even when, in several decades’ time, we finally have no further use for fossil fuels. But there will still be a lot of cash to give to shareholders in the form of dividends.
Shell disappointed shareholders last week when it reported profits below expectations but this is a short-term blip in a story that will play out over many years. Questor recently rated its shares a hold. BP reports third-quarter results on Tuesday.
Charles Heenan, of Kennox Asset Management, says: “As risk-focused investors we are drawn to the energy majors. There is strength in their diversification. We believe BP has an excellent portfolio, enormously attractive at this time, diversified across a proper range of assets: gas and oil, both ‘upstream’ [production] and ‘downstream’ [refining], selling to the consumer in its own petrol stations, and now renewables.
“The company is generating huge amounts of cash flow, something we don’t see stopping for a while.”
Partly because so many institutional investors now turn up their noses, BP’s shares trade at just 8.2 times predicted earnings for the current year, while they yield a predicted 4.4pc. These figures are far from pricing in the bounty in store. We rated the shares a buy in August at 298p and although they now stand 17.5pc higher at 350.2p we reiterate that advice today.
Questor says: buy
Ticker: BP
Share price at close: 350.2p
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