Beware, Investors, of a Climate Minsky Moment
Climate change could physically impair, destroy or render economically unviable trillions of dollars' worth of assets. The final report from the Task Force on Climate-Related Financial Disclosures can help us understand those risks -- and how to disclose them to investors. It’s a necessarily weighty report, and it invites investors to consider a very nonlinear outcome: what Bank of England Governor Mark Carney calls “a climate Minsky moment.”
This crisis, should it happen, would lead to indiscriminate pressure on climate-exposed asset classes and a potentially dramatic repricing of oil, gas and coal assets. Carney pointed to two drivers of this potential collapse in a Bloomberg Television interview: technology and more detailed disclosures of the risks that climate change poses to physical and financial assets.
Carney’s assessment is thoughtful and eloquent, if slightly scary. Considering the technology factor requires a bit of context: "Minsky moments" arise because “long stretches of prosperity sow the seeds of the next crisis,” so we should look first at where we are now.
Let's look at fuel prices. We have no data about the future, and managers of trillions of dollars of assets are necessarily reliant on history to inform their view of the present. Here are rebased long-term price strips for internationally spot-priced oil, natural gas and coal over the past few decades:
There is some inflation at play here, of course, but one could easily say that, through 2008, prices fluctuated a lot but trended upward. After that, the upshot seems to be that the global financial crisis popped a huge bubble in oil and gas. A third takeaway is that oil and gas prices were down in more recent years, but growing populations are demanding more and more fuel as they develop. Finally, oil, gas and coal assets all produce for decades, so any events after the financial crisis are simply near-term noise, complicating the longer-term story of increasing consumption, with all fuel prices up in the past year.
Indexes of fossil fuels companies (not surprisingly) track closely to the prices of their products, but they also tell a slightly different story. The S&P Oil & Gas Exploration and Production Select Industry Index is spiky, but it has also been essentially flat for the past decade. Coal is below par.
Neither index suggests a major collapse exactly, and if anything they indicate plenty of short- and medium-term opportunities to invest in appreciating stocks. What they also might indicate, however, is the importance of future demand -- driven by technology and behavior, not just climate policy -- as the driver of any sort of crisis for resources companies.
Bloomberg New Energy Finance's latest 2040 outlook has already highlighted the structural decline in demand for coal. My BNEF colleagues recently published a related long-term outlook for electric vehicles, which are expected to comprise more than half of all new cars sold by 2040. At the same time, per capita vehicle miles traveled are falling, regardless of the vehicle's drivetrain. As a result of these two shifts, transportation fuels demand is expected to fall by 8 million barrels per day by 2040.
As Carney suggests, climate-related policy and regulation will be essential in shaping the prospects for fossil fuels. Technology- and behavior-driven change could be just as significant a driver of these climate-triggered Minsky moments, which do not require that demand for a fuel drops to zero. It only requires that demand be less than consensus expectation. As demand changes, it does affect supply: High-cost assets are either productive and in the money for a given amount of demand, or they aren’t. A linear change in demand has nonlinear impacts on assets, and with it, the potential for rapid repricing.
Weekend reading (and watching)
- Carney speaks on the final report from the Task Force on Climate-Related Financial Disclosures with Bloomberg’s Francine Lacqua.
- The U.S.’s first climate-related town relocation -- funded with $48 million of federal money -- is running into obstacles.
- Volvo says that starting in 2019, every vehicle it makes will have an electric motor.
- Volvo’s parent company Geely has added another vehicle company to its portfolio: flying-car startup Terrafugia.
- Thermo- and piezo-electric power systems could eventually replace batteries in wearable technology.
- Worker productivity in construction has been flat for six decades. Perhaps building a skyscraper the way we build iPhones could change that stasis.
- Developing countries are an ideal testing ground for hackers.
- A new science fiction series from the X Prize Foundation and Japanese airline ANA explores the lives of passengers who depart Tokyo in 2017 and land in San Francisco in 2037.
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Brooke Sample at email@example.com