Engagement vs divestment: should investors walk away?
Investors are increasingly adopting an engagement approach when dealing with high emitters, but the ‘bazooka’ of divestment could still have its place, argues Atharva Deshmukh.
Jo Taylor, CEO of the Ontario Teachers’ Pension Plan, is one of many investors who are growing sceptical of divestment – the push to sell stakes in carbon-intensive assets. Speaking at the Canadian Club of Toronto on 8 September 2022, Taylor mentioned the fund’s $5bn investment in “high-carbon transition” assets – firms with relatively high emission levels. Taylor’s plan is to “take on” the emitters and decarbonise them by engaging in active ownership and then monitoring progress.
Taylor was asked why he thought that was a good idea, particularly when ownership of emitters is increasingly under scrutiny. His response: “We could leave it to somebody else, but the evidence we have seen so far is that somebody else isn’t doing anything.”
Taylor’s views reflect a growing realisation among investors that long-term engagement, not short-term divestment, will yield the outcomes we need. Yet, the answer to the question “should you divest or engage?” remains less than straightforward. Not everything about divestment is myopic, and stewardship is far from a silver bullet.
Institutional investors wield considerable power as asset owners and shareholders. Engagement and stewardship are weapons at their disposal.
Is divestment too myopic?
In a sense, divestment as a strategy is about sanctions and incentives – penalise an economic agent for outcomes that are not favourable, and the agent will be incentivised to alter the outcomes. This is largely short term.
While we tend to associate it with climate change, this strategy has a long history. Daniel Apfel, COO of Genesee Co-op Federal Credit Union, a US community development financial institution, documented its history in a paper published in the Social Research journal. According to Apfel, the effectiveness of divestment strategies can be seen in two historical instances.
First, US activists demanding divestment from apartheid South Africa on the grounds that it would rightfully make the regime a “moral pariah” (which resulted in long-awaited sanctions) and, second, the case of doctors and activists pushing for divestments from the tobacco industry in the 1980s on public health grounds, altering public opinion and policy choices in the process.
History warns against quickly dismissing divestment (although in the two instances Apfel documents, divestment was not the only war cry – it was part of a broader strategy).
Consider another key component of divestment: value-alignment. What do we, as a society, include in a company’s social licence to operate? This is at the very core of the climate divestment lobby made up of activists and academics frustrated with the empty promises and marginalism that “responsible investors” have resorted to. What Tariq Fancy, the former BlackRock CIO for sustainable investing refers to as the “cloudy linguistics of sustainable investing”.
The logic of divestment activism was summed up in a March 2022 New Yorker article by US environmentalist Bill McKibben titled “In a World on Fire, Stop Burning Things”. McKibben’s argument is that technological advances in renewable energy production make the need to burn fossil fuels redundant. His approach is summed up in the phrase “the sun burns, so we don’t need to”.
McKibben’s views are the zeitgeist of the divestment camp – investors should move carbon-intensive assets off their books, presumably to make space for greener ones. The end goal is to significantly reduce our tolerance towards continued fossil fuel dependence: a value-alignment that many would argue is necessary for solving climate change and hardly myopic.
The answer to the question ‘should you divest or engage?’ remains less than straightforward. Not everything about divestment is myopic, and stewardship is far from a silver bullet.
The other option – don’t walk away
So why are some investors not convinced? The key issue with the divestment tactic in the financial markets is that letting go of an asset means selling it and every sale is also a purchase – someone else has the asset on their books. Preventing or even reducing the likelihood of purchase in a global marketplace is as close to impossible as strategies get. Divestment results in a change of ownership, not the lack of it.
More importantly, institutional investors wield considerable power as asset owners and shareholders. Engagement and stewardship are weapons at their disposal.
From that perspective, a seat at the table is more valuable than walking away from it. As Sybil Dixon, investment analyst at UniSuper, one of Australia’s largest pension funds, puts it: “We’re in a privileged position where our voice resonates and matters. We take this privilege extremely seriously and use our voice to encourage, support and agitate for change as we all work towards meeting our Paris Agreement commitments. Our investments team has discussed climate change in more than 130 meetings with companies so far this year [2020].”
Engagement, which entails a long-term dialogue between investors and company management on matters such as climate change, converts the boardroom and annual general meetings (AGMs) into sites of debate over decarbonisation. While variations in corporate governance laws alter the extent of it, engagement allows investors to exercise something political scientists refer to as “agenda-setting power” – the ability to influence the priority given by companies to certain issues.
Evidence suggests that investors have sought to optimise this power. Take the 2022 proxy season as an example. In March 2022, Federated Hermes’ stewardship arm filed a proposal at Chevron, the oil major, demanding a report on methane emission disclosure reliability. Similarly, at Boeing’s AGM in April 2022, non-profit As You Sow called on the aerospace firm to report the extent to which it is aligned with the Climate Action 100+ net-zero benchmark. A key focus of that alignment was Scope 3, which investors say accounts for 99% of Boeing’s total emissions.
Climate Action 100+ has highlighted 14 similar proposals filed this year at some of the world’s largest emitters, including ExxonMobil and Valero Energy Corp.
The big theme of the 2022 proxy season was shareholder proposals related to climate change, often referred to as “Say on Climate” proposals. Investors filed a record 215 such proposals this year. If anything, the 2022 proxy season made it abundantly clear: investors are likely to follow the example of Jo Taylor’s $5bn bet on engagement.
We’re in a privileged position where our voice resonates and matters. We take this privilege extremely seriously and use our voice to encourage, support and agitate for change as we all work towards meeting our Paris Agreement commitments.
Divest when all else fails?
So, does this embrace of engagement require a dismissal of divestment? Not always, one might argue.
For example, the UN’s Principles of Responsible Investment (PRI) team conducted a study and found that a key driver of divestment is the exhaustion of all other means of engagement – if engagement does not yield satisfactory outcomes (transparency of disclosures, net-zero roadmaps and the like), divestment could remain as an option of last resort.
Recall former US Treasury Secretary Henry Paulson’s “bazooka” logic: if people know you have a bazooka, you may not have to take it out (deterrence). If divestment makes a firm worse-off and it remains an option, the deterrent effect of engagement could be greater.
The jury is still out on this, but as investors pursue engagement, it is worth noting that our premise of the mutual exclusivity of divestment and engagement is surely less than perfect.
Atharva Deshmukh is Net Zero Investor’s head of research.
