Excluding Companies With a High Carbon Footprint From Your Portfolio May Be Counterintuitive to Sustainability Goals

On this episode of The Long View, Hendrik du Toit, CEO and co-founder of Ninety One Asset Management, breaks down trends in ESG, how politics plays a part in how we invest in the climate, and how sustainability affects emerging-markets growth.

Here are a few highlights from du Toit’s conversation with Morningstar’s Christine Benz and Dan Lefkovitz.

Why Excluding All Companies With a High Carbon Footprint in Your Portfolio May Be Counterintuitive to Sustainability Goals

Dan Lefkovitz: You referred to ESG as sort of a box-ticking exercise. I know you’ve been critical of investment approaches that exclude fossil fuel-related businesses or avoid companies that have high current carbon footprints. What do those kind of approaches miss?

Hendrik du Toit: Because we think to solve the problem, what’s the problem of the world? We emit too much and therefore the world’s getting warmer, that’s one of the problems. It’s one of the big problems. To solve it there’s no point cleaning our portfolios and buying a lovely green portfolio and let the carbon emitters simply be owned by less scrupulous owners and let them out of the bright light of public exposure. I’m a big believer in public markets because when you publish, when you show your data, people will have an opinion. If you’re in the shadows, people won’t know what you’re doing. They’ll just feel the consequence of what you do and sue you later. So I think you need to go where the carbon is with capital. You need to help those businesses transition, those that can transition. I think the one thing we haven’t spoken enough about is running down certain businesses—that is not investing in them but running them for cash because right now the world needs hydrocarbons for energy. There isn’t enough renewable.

Until we start building nuclear, there isn’t going to be enough renewable and with explosions of data centers and other things, electricity demand, or power demands going up. So what we need to do is help those businesses that are currently doing it to continue supplying the world economy but also force the economy or encourage the economy to transition because if it doesn’t transition, there will be an embedded liability. And where the biggest court cases will be, will not be in Europe. It’ll be in the United States where you have a litigious society, you have courts that will award damages, and these will be off the charts in scale, and it’ll destroy massive amounts of value. So we are just encouraging our investors or our investment people to think about these issues, understand the risks, and then follow the mandate of the clients. But as a firm, I can tell you if we don’t address it and as a father, if we don’t address the issues that face us—and humanity has many other issues that face us—but if we don’t come to terms with how to govern AI and how to deal with our environmental challenges, we are going to leave a very sad society to our children and that’s not why we’re here. So that’s my personal driver. But we are not one-trick ponies, or ideologues because I think that is not sensible and so you need to go where the carbon is to solve the carbon problem. Not simply exclude that from your portfolio and deny them capital.

Balancing the Goal of ‘Net Zero’ With Financial Considerations

Christine Benz: Net zero is a popular aspiration for companies including yours. I’m curious as both a company and an investor, how do you balance that goal of decarbonization with financial considerations?

du Toit: I think it’s about, Christine, it’s about managing a liability down the line. It is about being competitive. What’s interesting, I’ll tell you a story now, which really got me to think about this, but it’s about meeting consumer demand. Because in the end, my daughter doesn’t wear new clothes because she says that’s environmentally damaging, unless she has no other option. She goes and buys from whatever they call it vintage or what I call it secondhand. She can afford new clothes, but she doesn’t. She says, I don’t want to help create more landfill. And I think more and more consumers are going to think like that. I personally try to avoid using single-use plastic. I will not buy the product. Because I know what happens. In my free time, I like being outdoors. I do lots of things, mountain biking, and so on. But I also kayak on the ocean when I’m here in Cape Town. When you go out and you see a clean sea like the southern oceans, it’s beautiful.

When you go to the Mediterranean and you see in certain parts of the ocean, you see these piles of plastic drifting around. You realize it’s just not the right thing. So I think it’s part of a societal endeavor but not at the cost, or it shouldn’t be at the cost of decent financial returns, because maybe there’s a short-term investment or sacrifice, but in the long run, there’s a liability that awaits those who do not change, do not adjust their manufacturing technologies, who do not think about their carbon. I’m very proud to say what really made me think is when shareholders challenged me on our carbon disclosure. And I said, what’s the problem? We’re just a fund management business. We’re not carbon-intensive. They said, your office in London, which is the same size as your office in Cape Town, the office building is a quarter as intense. And I said, yes, because the South African energy system is based on coal.

So what did we do? When we refurbished our building, which is in process, we turned it into a green one because we purchased renewable energy from the same landlord, which he generates on solar nearby. And it was a small investment and forever—in fact, our carbon footprint in our African office will now be lower than in our London office. And I think small things can make big differences. And we feel better about it than we know, ultimately, no one’s going to come and sue us for leaving a warm world behind because we have done our bit; we can. Clearly, we’ve got to keep flying. So we hope there’s technological advance. But I just think it’s one must be very practical and ultimately returns matter. And that’s what clients give you the money for. And that’s your fiduciary duty. And I have no argument with that.

How Climate Justice Plays a Role in Growing Emerging Markets Sustainably

Lefkovitz: You mentioned coal in South Africa. Sometimes you hear the argument from emerging markets that the developed world got rich on the back of fossil fuels. And now they’re expecting, holding us to higher standards, expecting us to avoid them. How do you reconcile the needs of emerging markets for growth and their natural resources’ dependence with sustainability?

du Toit: I believe in climate justice. I’m also very excited to see that the US has peaked in terms of carbon emissions, for example. The US actually, its energy system is being cleansed as we speak, even though it’s still per capita a very big emitter. But it’s not right that the rich world has been able to emit 7 times more per capita than the developing world historically. That they could just say, sorry, we’re not going to do exactly the same from now on. I think the poorer countries need lights for their children to be educated, to be able to compete in a modern economy. And if the only way they can do it is with local coal, they should be able to do it. The carbon footprint of Africa’s 2 billion people is minuscule compared with the US population or the European population. So it’s actually a rounding error, even if they emit. As countries get richer, I think the bar should get higher. And I’m very impressed with what many countries are doing in their plans. And I think the net zero thing, we must also be practical here, was a statement of a goal, a broad goal, a bit like the sustainability goals.

Let’s try and get to net zero. No one knew how to, but we have made substantial strides by simply reporting and therefore being open to scrutiny. First time in my life, I started asking questions about that in our business or in our investments. Many companies have improved themselves and therefore made themselves better, more acceptable to consumers. And technology has received capital. People like Bill Gates and others are giving a lot of money to accelerate technologies and now it’s a whole business and a whole industry. Our industry and capital markets are providing that. And so we are generating a market-based solution for a social or a common problem, which does make sense. So, I’m always for a market framework because it’s faster than having a regulated or legislated framework. But in the case of climate, I think governments need to step up. The Paris accord was a good one, subsequently they haven’t stepped up. And we’ve been arguing about small sideshows rather than the real solution. We only need 3%, 4% of global financial assets deployed per year into these technologies and to these solutions to solve the world.

In fact, it’s probably less. So, think of it, we’re spending a lot of time generating carbon to manufacture crypto and crypto is now at a scale where it could have dealt with at least one continent’s or few continent’s climate challenges. So, I think we need to just keep a perspective. But that’s not what either defines investment management or for that matter, our business. It isn’t part of it. And just because we’re exposed to emerging markets and the realities of the impact is, I guess, what is slightly more aware.

How Red States in the US Are Embracing the Climate Transition

Benz: I wanted to follow up on your previous comments about the US and sustainability. You’ve observed that red states in the US are actually embracing the climate transition. That seems maybe a little bit counterintuitive, but maybe you can talk about that.

du Toit: Yeah, it’s not that they are kind of climate activists. It’s simply they’re very commercial, very smartly took the benefits the US government or the incentives the US government gave them. And some of them are also quite rural. Farmers have been very quick adapters of new technologies and particularly manufacturers because it’s simply ultimately cheaper and better. And so if you look at the benefits from what is the single biggest, I’m not sure what the Chinese size is, but I don’t think it was the smaller, but government intervention in the energy transition. The red states have been very, very substantial beneficiaries and takers of that federal subsidy. So that was the point in spite of the fact that you don’t want to talk about it, is actually you adapt to reality. And I think what’s so impressive about the US, is US businesses and Americans tend to face the facts quite quickly and adapt when the facts change, they change their mind. And I think we’ve just seen this. So my point was not to think that this isn’t an ideologically driven transition. This is a real world. Take an example of company I respect very highly, Exxon. Exxon is clear. It’s going to produce hydrocarbon energy for a long time, that’s its business. But it’s also investing an enormous amount of money in carbon storage. Because it knows in order to do this, this will be required later and it can make money out of it in due course. And in the end, those guys deliver more than people who just write nice annual reports and say things, but don’t do. I just like the action.