Oil investors are complacent on climate change

Investors in oil majors have a problem. The need to curb carbon emissions means that sometime in the next few decades demand for fossil fuels could peak, raising the risk that prices collapse and reserves lose their value. Shareholders need to decide whether to ask tougher questions, or carry on as normal.

Judging by investors in Royal Dutch Shell, the answer is the latter.  At the group's last shareholder meeting only 5 percent backed a motion compelling it to set and publish targets aligned with the goal of the 2015 Paris climate agreement, which aims to limit global warming to below 2 degrees Celsius above pre-industrial levels.

Shell is not exceptional in falling short, according to Carbon Tracker. In general oil majors don't give investors enough detail to indicate how a sub-2 degrees Celsius scenario would credibly affect the value of their assets, the research group reckons. European oil majors in general assume prices of $70 to $80 a barrel when testing for impairments on the value of their assets, compared to a 1861-2016 average of $35, according to fund manager Sarasin & Partners.

It's odd that investors aren't more bothered. The International Energy Agency forecasts that by 2040 demand for oil and gas could fall by almost 50 percent if the Paris targets are met, compared with a business-as-usual scenario. Even that may be optimistic if, for example, usage of electric vehicles takes off more quickly than expected. Warnings by the likes of Bank of England Governor Mark Carney that reserves could become “stranded” could become reality.

One reason for the insouciance is that investors aren't the only ones ignoring Paris. The United States, the world's biggest oil consumer, quit the accord last year. The IEA's own base case assumes that temperatures rise by 2.7 degrees. If some major governments and institutions are dragging their heels, it's unsurprising the private sector is also doing so.

Shareholders might also justify inaction with number crunching. Oil majors can be valued in various ways, but a conservative approach would be to assume that they do the opposite of their typical business model, which involves spending billions of dollars annually on oil and gas exploration. Valuing what happens if all development stops, and reserves are run off, appears to give some cause for comfort.