Does Divestment Cost?

Central in the debate about divesting endowments from fossil fuels is not only climate change, but the question of whether such a move could hurt colleges financially.

The latest study examining the financial impact of divestment, released earlier this month and paid for by an oil industry advocacy group, says colleges that divest are bound to lose money.

Bradford Cornell, a hedge fund manager and visiting professor at the California Institute of Technology, determined that Harvard University, with its $36 billion endowment, would lose $108 million each year if it divested from fossil fuels, as students activists have been seeking. Cornell says divestment hurts an institution's ability to fully diversify its investment holdings.

“Diversification is the one free lunch in investing,” he said in an interview. “If you have some impediment to diversification, it's going to hurt your risk-adjusted investment performance.”

Yet reports with the opposite findings abound.

A separate analysis released by Trillium Asset Management, an investment firm that offers investors fossil fuel-free funds, says that Harvard’s coal, oil and gas stocks have lost some $21 million over three years.

“The losses have accelerated recently with an estimated $14 million drop in just the past six months ending March 31,” the April 2015 analysis by Matthew W. Patsky says. “Even this staggering potential loss is only half of the story. Opportunity cost is the other half. If Harvard had sold off its fossil fuel holdings it would have reinvested the proceeds, presumably with broad market exposure.”

Both reports have limitations. Cornell’s report is based on the last 20 years of data for the performance of the oil, gas and coal industries. Yet some believe historical data may not be an accurate indicator of future performance, given that shifting consumer patterns and government regulation could put a strain on fossil fuel companies.

And both studies are based on assumptions about the exact makeup of Harvard's endowment, which is hard to determine given that the university releases only very limited information on where it invests.

Many colleges and universities are under increasing pressure from advocacy groups to divest from the fossil fuel industry because of the impact oil, gas and coal have on the environment. Yet the conflicting reports of the last year alone show how difficult it is for institutions to make decisions about divestment, especially when millions of dollars in endowment revenue are on the line. Some students and others say that colleges and endowments should sell holdings in fossil fuel companies simply because it is the right thing to do. But many also argue that such shifts will not hurt endowment earnings and may even help them -- and those claims are key to many higher education endowment managers, who have traditionally viewed their chief obligation as maximizing returns.

The result is mixed bag: some colleges are divesting completely, some are divesting partially and others are not divesting at all, but promising to work on other sustainability measures on their campuses.

Many institutions, such as Harvard University, Tufts University and the University of Michigan, have resisted years of persistent calls to divest. Others, like Syracuse University earlier this year, Pitzer College and the University of Dayton, have chosen to fully divest any direct holdings in fossil fuel companies.

Other colleges and universities are somewhere in the middle, selling some holdings without adopting formal divestment policies, or adopting divestment policies for some but not all fossil fuels. The University of California System, for example, earlier this month sold off $200 million in endowment and pension fund holdings -- which total around $100 billion -- in coal and oil sands companies, but the system still has some $10 billion of investments in fossil fuels and related industries. Earlier this year Georgetown University also divested from coal companies, as did Stanford University in 2014.

In April, Newsweek reported that HSBC, a multinational bank, informed clients of an increasing risk that fossil fuel companies will become “economically nonviable” and suggested they divest from such companies.

Those who don’t divest “may one day be seen to be late movers, on ‘the wrong side of history,’” an internal HSBC memo said. (Some investors believe oil companies are overvalued because, given concerns over global warming, such companies won’t be able to use much of their reserves.)

Yet a month beforehand, in advance of Global Divestment Day on Feb. 13, an op-ed in The Wall Street Journal argued that divestment can be costly for institutions.

Daniel Fischel, a consultant who is emeritus professor at the University of Chicago Law School, analyzed the performance of two hypothetical portfolios over a 50-year period -- one with energy stocks and the other without -- and found the portfolio without energy stocks had average annual returns of 0.7 percentage points less than the one with the energy stocks.

Meanwhile, Karthik Ganapathy, with the group 350.org, an international divestment advocacy organization, points out that both Cornell’s and Fischel’s reports were sponsored by the Independent Petroleum Association of America. (Cornell, who says he has had little contact with the IPPA, asserts the association did not attempt to influence his research.)

“It’s no surprise that big oil thinks it’s a bad idea to pull money out of big oil,” Ganapathy said. “It’s indicative of a desire to protect the status quo and keep our money invested there.”

Opposing Views

The UC System’s decision to divest in coal and oil sands stocks was partially motivated by environmental concerns, but largely driven by the perceived risk in those industries.

"When you look at coal and you see what the future holds, and we are a long-term investor, it just did not make financial sense," said Dianne Klein, a spokesperson for the UC System. "It was not purely an ethics-based decision. It was primarily a financial decision …. As fiduciaries this is, and will remain, our primary responsibility."

And the school has no policy in place that prohibits its investors from buying coal stocks again in the future, although Klein says such reinvestment is unlikely because the university system plans to emphasize "good governance, social responsibly and environmental concerns" in future investments. "We believe, ultimately, that the good guys win," she said.

It can be difficult to extrapolate the moral and financial aspects of university investments. Jagdeep Singh Bachher, the chief investment officer of the University of California regents, in an op-ed in The San Francisco Chronicle last week pushed against the “divestment-or-nothing reflex” of some activists. “Blanket divestment from fossil fuels grabs headlines but doesn’t actively address climate change,” he wrote.

Bachher advocated for sustainable investment instead of divestment. The university system is committing to invest a billion dollars in companies that offer promising and profitable solutions to climate change.

“We are integrating sustainability into our investment framework as a philosophy of long-term investing in and for the future, and as a key metric for evaluating risk,” he wrote. “By doing so, we will not only be able to generate competitive, risk-adjusted, long-term investment returns, but also help save the world.”

Cornell, the hedge fund manager, says the divestment movement is “ridiculous” because divesting from fossil fuel stocks does little to actually help the environment or change the financial health of fossil fuel companies, as it’s likely that sold off shares will just be bought by another entity. And if selling off stocks does devalue a company, then Cornell surmises that companies are most likely to internalize the loss by cutting less profitable programs, which are often alternative energy programs.

“It’s a sideshow because it’s not going to do anything,” Cornell said of divestment. Real change, Cornell says, would come from addressing energy consumption and curbing it through taxes.

Yet many divestment groups aren’t trying just to devalue fossil fuels, but to raise awareness about how fossil fuels impact the environment and contribute to global warming.

“The primary goal isn’t to hurt the financials of fossil fuel companies in the short term. The goal is to shift public opinion. If Harvard does it and Yale does it, then you have this turning of the tide in public opinion,” Ganapathy said, likening divestment of fossil fuels to divestment in tobacco a half century ago. “We’re reducing the ability of fossil fuel companies to control the political process, and eventually that leads to regulations that will hurt their bottom line.”

Different Strategies

A week after the UC System’s decision to sell off its coal and oil sands stocks, Williams College committed as much as $50 million over five years to sustainability initiatives but refused to divest of fossil fuels despite robust student pressure to do so. Williams’ governing board last year was petitioned by alumni, students, faculty and staff to divest its endowment of a set of 200 companies that have large coal, oil and gas reserves.

In a statement, Williams’ president and governing board asserted that divesting is a largely symbolic gesture and too costly because it would require the institution to change its entire investment strategy. Williams’ $2.25 billion endowment is largely invested in funds, many of which have fossil fuel holdings. The college will, however, allow donors and staff to stipulate they want their investments held in funds free of fossil fuel companies.

"We will invest, not divest," they wrote. "If the act of divestment is largely symbolic, the cost of actually committing to divest the college’s endowment from the stocks of fossil fuel-producing companies, whether held directly or indirectly by our outside managers, is concrete and potentially enormous."

In April, Syracuse -- after student rallies that included an 18-day sit-in -- agreed to decrease its financial stake in fossil fuels while looking for additional investments in renewable energy companies. Syracuse has a $1.18 billion endowment.

The next month Swarthmore College -- where students staged a 32-day sit-in for divestment -- made the opposite decision, refusing to divest its $1.88 billion endowment from fossil fuel companies. In that case, Swarthmore’s governing board said it was committed to its investment guidelines, which state that the endowment should be managed “to yield the best long-term financial results” and not to pursue social objectives. Like Williams, Swarthmore also allows donors to contribute to funds free of fossil fuels.

At Harvard, student and faculty groups have been pressing the university to divest from fossil fuels for years. A Facebook group dedicated to divestment has more than 4,300 likes. In April students blocked entrances to administrative offices in protest of the university’s investments in fossil fuels.

Harvard’s leaders haven’t retreated from their antidivestment stance, which President Drew Faust explained in 2013 as “against divesting investment assets for reasons unrelated to the endowment’s financial strength and its ability to advance our academic goals.” Faust also noted the complexities in divesting from an industry that is widely used.

Yet, once again, it appears the biggest driver for Harvard’s hesitance was a monetary one. Faust doesn’t want to risk Harvard’s endowment, which is the largest university endowment in the world.

“Despite some assertions to the contrary, logic and experience indicate that barring investment in a major, integral sector of the global economy would -- especially for a large endowment reliant on sophisticated investment techniques, pooled funds and broad diversification -- come at a substantial economic cost,” her statement said.

But in a Guardian article from Wednesday, Goldman Sachs’ global head of environmental, social and governance investing, Hugh Lawson, said endowment managers can divest and limit the risk of losing money. How? By replacing oil and gas investments with “other holdings in the energy sector, commodities or real estate that correlate with fossil fuel assets,” he suggested.

“A wider set of clients is interested,” he said of the practice.