Climate change will become a CEO dealbreaker

An attendee poses for a picture near a model earth during the COP27 climate summit in Sharm el-Sheikh, Egypt November 19, 2022.

NEW YORK, Dec 22 (Reuters Breakingviews) - The following is an imagined letter from Darcy Cook, the chief executive of StarMark Financial, which – if it existed – would be the world’s biggest money manager.

Dear shareholder,

A few years ago, in my annual letter, I argued that a company without a clear purpose will struggle to create sustainable value. What applies to companies also applies to the people who run them. That’s why I will be standing down at the end of 2023. While StarMark Financial again delivered record earnings in 2022, my own views on climate change are no longer compatible with my duties as the CEO of a global financial firm.

As you know, I am a strong believer in the power of markets. The threat from global warming, however, is a clear example of market failure. Even energy producers like BP(BP.L) acknowledge there should be some way to reflect the cost of climate damage and biodiversity loss in the prices of carbon-based fuels. But without government action, schemes like carbon taxes that would address this deficiency are a non-starter.

Meanwhile, the world needs $9.2 trillion of investment per year in order to transition to net-zero emissions by 2050, according to McKinsey, but we are still running roughly one-third short of that level. Markets cannot fix the problem, without help. Even the question of how to reach that destination is unclear, since there are over two dozen competing national and international “taxonomies” defining what counts as a green investment – none of them from the United States.

The last couple of years have shown that government action won’t be coming, at least in our home country. Democrats missed a historic opportunity to introduce a carbon price in 2022 as part of President Joe Biden’s Inflation Reduction Act. In any case, a carbon tax can be regressive unless receipts are used to offset costs borne by lower-income consumers. That would require political unity that does not exist.

Where does that leave us? As a giant asset manager, our job is not to play politics, but to reflect the views of our investors when we interact with companies exposed to climate risk. But the uncomfortable truth is that the views of our millions of investors are often ambiguous, and sometimes verge on indifference. A Pew Research survey last year showed that respondents in nine countries including the United Kingdom, France and Spain ranked climate change as the most pressing of five threats to the country. Americans ranked it fifth. Our rival Vanguard has already pulled out of the world’s biggest climate-finance alliance.

StarMark has increasingly come under attack by politicians in states like Florida and Texas who argue that when we engage with companies exposed to climate risk, or firms that are heavy emitters, we are making decisions without a clear mandate from our customers. In a sense, they are correct. While we believe that supporting measures that advance climate change mitigation creates value, it is clear that some large public-sector clients disagree. We have worked hard to offer our customers the chance to guide our voting habits, following the work done by our peer BlackRock(BLK.N); the majority of them decline to do so.

That tension has cost StarMark business already, as some Republican-led states like Texas and Florida have pulled our investment mandates. At the same time, some Democrat-led local governments have threatened to take business away from us if we take too mild a stance on climate risk. Since we must deliver adequate returns to our own shareholders, this situation is not sustainable. One option is simply not to vote when customers don't give us clear instructions. Yet large asset managers own around 20% of all U.S.-listed companies. Those votes may end up being wasted.

My retirement from the firm I founded more than 30 years ago will not solve these problems. It will, though, leave me free to use my $1 billion of personal wealth to start a new fund, Fifth Season Capital. This will provide funding with the expectation of below-market returns for projects that can contribute to emissions reduction, the idea being that these schemes can then attract private capital on top. I welcome executives at other firms facing similar challenges - and who would like the added bonus of a more harmonious relationship with their climate-conscious grandkids - to join me.

I believe we face the risk that climate change will prove catastrophic within our lifetimes. If I am correct, we may reach a moment where executives, directors and investors are asked to explain why capitalism failed to avert the crisis, and why money kept pouring into polluting industries as emissions targets fell by the wayside. They will reply that their hands were tied, because they were simply doing their job: pursuing shareholder value, maximizing returns and avoiding political brickbats. I can’t say they are wrong. All I can do is ensure I’m not part of that chorus.

Follow @johnsfoley on Twitter

(This is a Breakingviews prediction for 2023. To see more of our predictions, click here.)

Editing by George Hay, Pranav Kiran and Sharon Lam

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