Sustainable investing has taken its knocks, but that isn’t because the climate crisis has become any less acute. Instead, rising interest rates and a flight to safer short-term opportunities are doing much of the damage, says a top institutional investor.
Investments in green technology and sustainable funds took off early in the pandemic as society focused its attentions on environmental vulnerabilities such as climate change. Years of low and stable interest rates helped fuel the boom, said Martin Grosskopf, portfolio manager and director of sustainable investing for AGF Management Ltd.
As inflation fears have grown and rates have climbed to two-decade highs, investments in cleantech companies that may not generate cash flow until well into the future have given way to demand for more immediate payouts, Mr. Grosskopf said in an interview.
“I would say the most problematic aspect of the last 18 months has simply been interest-rate volatility,” he said. One saving grace for the sector has been U.S. President Joe Biden’s Inflation Reduction Act, which includes US$369-billion of incentives designed to boost a host of green technologies, among them renewable energy and electric vehicles.
The technology sector in general – which is characterized by long-duration returns – had a brutal year. Even some of its biggest names, such as Amazon, Netflix, Shopify and Telsa, have lost half of their value or more.
Without the Inflation Reduction Act, Mr. Grosskopf said, “you would have had a lot of companies along the hydrogen, carbon capture and, perhaps, the EV supply chain run into some pretty significant issues in terms of their ability to raise capital.”
Even with help from the United States government, the market for environmental, social and governance-themed investments has stumbled since the massive run-up of 2020 and 2021 – at least in public markets.
Aside from macroeconomic uncertainty, the field has been hit by concerns about greenwashing, a term for when companies make false or exaggerated claims about their environmental efforts. And ESG has also experienced a political backlash, especially in the U.S. According to Morningstar, flows into sustainable funds totalled US$23-billion globally in the third quarter of 2022, down from US$150-billion a year earlier. In Canada, the S&P/TSX renewable energy and clean technology index has shrunk to less than half its peak value, which it reached in early 2021, as investors have moved out of long-duration holdings.
They have moved some of their capital into the fossil fuel industry, which rebounded sharply over the past 18 months as oil and gas prices jumped in reaction to energy shortages in Europe after Russia invaded Ukraine.
“It’s why you see sustainability funds beginning to own fossil fuel assets now, because if a sector is up 60 per cent and your sector’s down 30, you find ways to own,” Mr. Grosskopf said. “So I think you’re going to see a lot of cracks in some of the strategies. You’re going to see concerns on what some of the funds own in the space, as they move from owning the obvious names like Microsoft and Visa that have low carbon footprints, and then they want to own more carbon intensity.”
“So the linkage between carbon intensity and tightening [of monetary policy] is a dynamic we need to talk about more.”
Mr. Grosskopf said he expects investment to return to the most promising names in the cleantech world once interest rates peak and the share prices of big names find their bottoms.
Although the Inflation Reduction Act has thrown a lifeline to the U.S. cleantech and renewable energy sectors, it poses a competitive threat to Canada. Many Canadian companies can benefit from the act’s incentives, directly and indirectly. But the legislation places some Canadian projects, such as carbon capture for oil and gas facilities, at a disadvantage in the race for capital, compared to their American peers.
“I’m not opining on whether it’s the right thing or the wrong thing to do from a government support perspective, but the reality is they have laid the baseline and Canada is behind that baseline,” Mr. Grosskopf said.
“You can make the argument we shouldn’t be providing that much incentive to industries that should be cleaning up, essentially, their own pollution to some extent. But in the absence of very strong carbon pricing, and significantly higher than what we have today, it’s sort of a carrot and stick and there’s a lot of carrot in the IRA.”
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