Like many of a certain age, I’ve been happy to indulge in nostalgic Star Trek sound bites prompted by the death of Leonard Nimoy. I’m less comfortable with developments over the last fortnight which have seen international bond and equity markets apparently content to boldly go where no man has gone before.
The European Central Bank is about to embark on an orgy of printing money, the device known as quantitative easing. The objective is to keep interest rates low and release resources for banks to ramp up lending. But interest rates are already negative for gold chip borrowers in the eurozone, a phenomenon not normally featured in economics textbooks, nor in the experience of contemporary bankers.
This tolerance of negative yields in bond markets has a curious parallel in the oil and gas sector of equity investment. Current share valuations assume that reserves on a company’s balance sheet will be exploited, contradicting international climate agreements which resolve indirectly to leave most fossil fuel resources in the ground. Share prices are therefore heading for a fall, unless we prefer our children to live in a world which will have warmed by more than the two degree tolerance threshold.
BP has meanwhile published its influential annual Energy Outlook 2035. Seeking to reinforce the legitimacy of current stock prices, it concludes that “(global) demand for oil will increase by around 0.8% each year to 2035.” Shamelessly, the report acknowledges that “such a path would be materially higher than one which would be generally regarded as consistent with limiting the rise in global mean temperatures to 2 degrees…..the projections are based on our view of the most likely evolution of carbon related policies.”
In other words, BP invites investors to value its stock on the assumption that the UN climate negotiations will fail; by obvious extrapolation, other sectors of the stock market dependent on fossil fuels should be valued on the same basis.
However, there’s no reference to the other side of the equation – the long term investment risks associated with a global economy grappling with the impact of runaway climate change. Like the negative-yielding bond market, this notion of equity valuations defying political and environmental gravity leads us into unchartered waters.
Both markets justify their offside positioning by reference to the untouchable pursuit of economic growth, as currently measured and as currently powered by fossil fuels. Any consequences are viewed as acceptable collateral damage, subservient to this higher goal.
The collateral damage of global warming in excess of the two degree tolerance threshold is recognised as particularly acute for the world’s poorest countries – which also struggle with the volatile capital flows already brought about by quantitative easing programmes in the US. In the UK, these programmes have generated windfall profits for banks, whilst reversing two generations of progressive housing policy. The property market has become the playground of owners of cheap capital, squeezing out young middle class purchasers.
Bond and equity markets are therefore displaying curious similarities. Both offer perverse negative returns; and their valuations are blind to the consequences of unconditional economic growth, the most pernicious of which is the intergenerational injustice of deteriorating access to environmental and monetary capital.
Institutional investors come across as unwise and rudderless in drifting across their increasingly dysfunctional universe. We could do with more of the boldness and leadership of the lamented USS Enterprise.
Unfortunately, two of the best recent articles on these topics are both gated, but they are:
The riches and perils of the fossil-fuel age by Martin Wolf in the Financial Times
Draghi ready for last roll of the dice by Philip Aldrick in The Times
Alan Rusbridger (Editor of The Guardian) has also written a major article on keeping carbon in the ground