Motley Fool Hidden Gems Investing - Opportunities in Sustainable Investing

Episode Date: October 16, 2022

More than 90% of S&P 500 companies publish sustainability reports. But what’s real and what’s just greenwashing?  Bruce Usher is a professor at Columbia Business School and the author of “Investing in the Era of Climate Change.” Maria Gallagher and Alyce Lomax talked with Usher about: - Opportunities in sustainable investing - Renewable energy technology. - How electric vehicles can help solve green energy’s intermittency problem Stocks mentioned: F, TSLA Additional resource: https://www.fool.com/investing/stock-market/types-of-stocks/esg-investing/climate-change-stocks/ Hosts: Maria Gallagher, Alyce Lomax Guest: Bruce Usher Producer: Ricky Mulvey Engineers: Dan Boyd, Brandon Gentry Learn more about your ad choices. Visit megaphone.fm/adchoices

When WestJet first took flight in 1996, the vibes were a bit different. People thought denim on denim was peak fashion, inline skates were everywhere, and two out of three women rocked the Rachel. While those things stayed in the 90s, one thing that hasn't is that fuzzy feeling you get when WestJet welcomes you on board. Here's to WestJetting since 96. Travel back in time with us and actually travel with us at westjet.com slash 30 years. The most dramatic growth in electric vehicles is not in the U.S. or Europe.

It's in developing countries already, mostly around two-wheelers and three-wheelers. That's where it's being used. In some countries today, over 90% of two-wheelers and three-wheelers are electric today. And four-wheelers, traditional automobiles, are rapidly catching up. Why? Because they're a more efficient vehicle to drive, and they're better to drive, and they're cheaper to drive. So those cost advantages are really reflected in developing countries.

i'm chris hill and that's bruce usher professor at columbia business school and author of the recently released book investing in the era of climate change maria gallagher and alice lomax caught up with usher to talk about renewable energy technology the opportunities and challenges in sustainable investing and one under the radar benefit of electric cars so to get started as someone who started in a more traditional finance route how did you pivot into a more sustainable investing kind of mindset so my background was in traditional finance i worked initially in tokyo and then here in new york and on wall street and i pivoted just after

2000 2002 i had the opportunity to join a small company that was investing in climate change projects in developing countries all over the world. What was interesting about 2002, and I didn't recognize the time, was that, in fact, there was very little to invest in. That's what's changed in the last 20 years. I think people are unaware of just how dramatic that change has been. 20 years ago, we were well aware of the challenge of climate change. The science was already pretty good 20 years ago. What we didn't have were any solutions to actually decarbonize the global economy. There was no way we could have done it at any reasonable cost. Today, we're in a dramatically different situation from renewable energy, which is the cheapest form of power in

many countries in the world today, if not all countries. Electric vehicles, which are a preferred vehicle for many drivers, a better car, to other more exotic solutions like green hydrogen, direct air capture. There's a lot of technologies out there. Many of them are commercial. In fact, if you just look at what's commercial today, that gets us about halfway to what's called net zero. This is about halfway to reducing emissions we need to reduce to avoid catastrophic climate change. So that's how I got into this sector 20 years ago from the financial industry and actually why I'm still in it, because it's actually a far more attractive place to be today.

Something that I loved reading your book is it's basically, as you're talking about, a primer on the existing technologies and the challenges that all of these technologies face and how we need to scale them. So what is a renewable energy that you're really excited about and where do you see that going in the next five to 10 years? Well, let me just start with the boring stuff, which is renewable wind and solar. And I say it's boring because it's already at scale. It's the fastest growing source of power on the planet, not just here in the US. It's already highly competitive with fossil fuels, with any other form of power generation today.

But from an investor's perspective, it's very attractive because it's so well-known. The technology is very stable. It's very long-term. Investors can make very long-term, very stable investments, and particularly given all the market volatility we're all facing today, that kind of investment, those kind of returns are attractive. They're low returns, but they're very low risk as well. And so that's an attractive area to be focusing on. Electric vehicle is a little more challenging, because while electric vehicle demand is growing dramatically, a very exciting space, we're still short some of the charging infrastructure.

There's still a lot of questions about how that growth is going to continue to accelerate. And so from the investment perspective, there's opportunity there, but there's challenges. And there's challenges around which companies are going to dominate those sectors as well. Is Tesla going to continue to stay in the lead? Or will GM or Ford or other companies that are really committed to it, are they going to be catching up? And then you get some of the far riskier but far more exciting technologies. Green hydrogen probably leads the list at this point.

This is using renewable energy, which is, as I mentioned a moment ago, very cheap and at scale, to produce hydrogen. Hydrogen is a really useful gas in industrial applications, also for heating, for transportation. And so there's enormous potential for that gas. But the cost today is still too high. It's uncompetitive with fossil fuels today. And the infrastructure is lacking. So a lot of challenges to growing the green hydrogen space.

But tremendous opportunity for those to get it right. I was wondering if you could touch a little bit on nuclear, which is an interesting area in the renewable space. if you could talk about the pros and cons there. Sure. So nuclear is a controversial subject, has been for a long time, but I think the controversy is actually misplaced. It's a very safe form of power generation. We look at, you know, historically, despite some very serious mishaps over the years, the challenges in the security issue, the challenge is really very simple. It's expensive form of power generation. Today, traditional nuclear is currently built is a very costly way of generating power now operating plants can be fairly low cost so those

that are operating continue to operate and i expect they'll continue to operate here in the u.s and much of the world but building new plants is is it's just one of the most expensive ways to generate new power today the caveat being that there are some new nuclear technologies in development these mostly fall in the category of smr nuclear small modular reactors those These technologies have the potential to be both much lower cost, have much better security or safety if you are concerned about that, to be smaller and more distributable, which is a big advantage as well. That being said, no SMR nuclear is yet in the commercial market.

In fact, the forecast for the first commercial SMR facility is forecast to be online in 2029. The price point's a little hard to know with certainty, but based on what we're hearing from these developers, it's still going to be fairly costly, even at that point in time. So I think nuclear's interesting potential, but I describe it as a long shot at this point. That's really interesting, because I feel like nuclear has been kind of a hot topic of kind of reviving the era of nuclear. That's really interesting the way you're talking about that. Can you speak to the way that all of these green energy options interact with each other?

Yeah. So this is a really key point, Maria, because most investors and policymakers as well, they tend to look at these climate solutions, as I call them, mostly energy, but there are other solutions as well. And they look at them as silos. They look at what sort of policy would support, say, more solar or what sort of investment produces more electric vehicles. But in fact, these technologies are really connected.

and that's both the complexity of them but where i think it's particularly interesting let me give an example i mentioned a few minutes ago that as the price of renewable energy comes down green hydrogen becomes more competitive green hydrogen has all sorts of applications in industry let me give you another example it's a simpler example but one actually more relevant today as the cost of electric vehicles come down more people buy electric vehicles electric vehicles are essentially energy storage on wheels. And the average driver drives in America for less than an hour a day, actually 48 minutes a day. So the remaining 23 hours of vehicle is not being used. When it's not being used, it's a tremendous store of power. And that store of power can be

used to address the issue of intermittency in renewable energy. So I think most people know solar and wind are great source of power when it's sunny or windy, which is not always. When An electric vehicle stores power so that when it's not sunny or windy, you can use that power. The new Ford F-150 Lightning, which is a very, very popular new pickup truck, all-electric pickup truck, it has the ability to do what's called vehicle-to-grid. Vehicle-to-grid, or V2G, allows you to literally plug in your car, plug in your pickup truck into your house, not to draw power to charge your car, but actually to take power from

your vehicle into your house. And in places that have had blackouts or rolling brownouts because of storms or other reasons, Texas has had this recently, the power that's in that F-150 Lightning could provide enough electricity for the average American home for three days. You get three days of power stored there. So this is a really interesting and useful side benefit, because it's not the main reason people are buying EVs, but another benefit of EV. So these things are very connected.

renewable energy, electric vehicles, hydrogen, I'm talking about direct air capture and some of these other technologies, they're actually all linked together. And as any one of these technologies, any one of these sectors scales, it actually accelerates growth in the other sectors as well. You touch on about how governments have kind of an interesting challenge because you have to regulate everybody all over the world. And so you see this kind of disconnect between the developed markets like in the U.S. and in Europe as how we're trying to rework all of our existing infrastructure. And then you have emerging markets who are now trying, who are being asked as people who are not strong emitters to kind of jump the middle section that we've been in for hundreds

of years. How do you think about the challenges that are posed to different countries around the world? Yeah. So let's first begin with the big challenge here, right? Climate change is a global problem you and i make greenhouse gases affects everyone globally and same for anybody else right so we're all in this together and in a perfect world we all cooperate figure out how to solve the problem we'd already you know i'll pitch in reduce we don't live in that world we never will live in that world and that's why the international negotiations to reduce greenhouse gas emissions don't have the outcome that one would ideally hope for which is everyone agreeing to solution it's not going to happen i don't believe in that that's that's a bad news that's a challenge

Here's the reality. The reality is in developing countries, the big challenge is not implementation of these technologies because in fact, there's an opportunity there to leapfrog the use of fossil fuels, which frankly is pretty inefficient way of generating power, to leapfrog the use of internal combustion engines and go right to electric vehicles and so on. The most dramatic growth in electric vehicles is not in the US or Europe. It's in developing countries already. mostly around two wheelers and three wheelers that's where it's being used in some countries today over 90 of two wheelers and three wheelers are electric today and four wheelers traditional automobiles are rapidly catching up why because they're more efficient vehicle to drive and

they're better to drive and they're cheaper to drive so those cost advantages are really reflected in developing countries here's the real challenge when you really drill down and understand what the challenge is in getting developing countries to decarbonize. And that is mobilizing capital. Capital investment in developing countries is especially challenging. It's challenging investing in the US, challenging investing in Europe. Your investors are all investors. It's hard. But in developing countries, it's that much harder. It's that much harder because you have much greater long-term risks. The legal infrastructure may not be as strong. There may be more political instability and so on that makes long-term investments harder to make.

or are made at a much higher cost of capital. And that makes these projects less attractive. So the real challenge in developing countries is not the technologies themselves. It's making sure that capital is finding opportunities to invest in those countries. And that's a big challenge. We don't have easy solutions to that one today.

Well, speaking of that theme, your book did such a great job of going through the history and going through different energy sources. It was so enjoyable. But you also talked about investing in a way that could help combat climate change. And a few of the areas that you went into were environmental, social, and governance, or ESG investing, divestment, and thematic impact investing.

And we were wondering if you could maybe touch on those areas and the pros and cons that you see in the challenges. Sure. Alice, you mentioned there are a number of different strategies in the book. As an investor, what are the opportunities to actually put capital to work to address climate change and make an attractive financial return? The book goes through those strategies. That's really the heart of the book. Some of the strategies are, frankly, pretty controversial. Let me address each in turn very briefly. Let's start with the divestment. Divestment has become a popular strategy, particularly among university endowments,

where I am here at Columbia University and many of our peer schools. And divestment is a very simple concept. Look, let me give you an example. I don't smoke. I actually don't really like being a room full of smokers. If I don't like smoking, why would I invest in tobacco? It's pretty simple. Well, when it comes to climate change, if I'm really concerned about climate change,

why would I invest in companies that are the worst polluters? It's the same concept. Or as Bill McKibben, the founder of divestment, would put it, if it's wrong to wreck the planet, it's wrong to profit from that wreckage. That's a powerful statement. The problem with divestment is that it doesn't do much to address climate change. Because if I sell my shares in a company that's polluting the atmosphere, someone else is buying those shares.

But if it's a transaction, the companies, and maybe only in the largest public companies, and most fossil fuels today are not in public companies. They're actually in sovereign companies, national-owned oil companies, for example, or private equity. And so divestment isn't very impactful. What divestment is good for, though, is it aligns your personal values with your investments. And that can be very important, very important personally, just not that important to the planet.

Second strategy you mentioned is ESG, right? ESG has become quite controversial. And this is fascinating to me because it's controversial for all the wrong reasons. ESG is a really simple concept. Look, if you're picking stocks and you want to make an investment, you look at many factors in a company. You'd read the financial statements. You'd consider the management, the quality. You'd look at the competitive products. You do all this analysis. All ESG is doing is saying, in addition to the analysis, not instead of, in addition to, you should also consider some additional factors, some environmental factors,

some social factors, some governance factors. And how are those putting the company at risk or creating opportunity, but more around the risk side of it. So it was intra-analysis when you're making your stock picks. That's just smart investing. And that's what ESG is all about. ESG is really about risk management for companies and for investors. It's become political. It's all upside down because the reality is ESG,

also like divestment, doesn't do much for addressing climate change. Just because I pick companies that are strong ESG, that might make me a better investor. In fact, there's a decent amount of academic research today suggesting that ESG investors are showing that they can outperform and that companies are starting ESG to do better. But it doesn't really affect climate change. All those companies are doing is managing their risk. The third strategy, and now we get to actually addressing climate change, is thematic.

So this is saying, look, I really care about climate change. I really want to make good returns, good market risk-adjusted returns on my money. what themes can i invest in and i mentioned one a few minutes ago i could invest renewable energy renewable wind and solar it's very low risk every wind and solar project that's built helps us address climate change by reducing greenhouse gas emissions that's a theme i like that's a theme i'm going to invest in so that's a thematic type investment and that does address climate change and the fourth strategy just to touch on it but doesn't apply to most investors what's called impact first impact first is when investors says look what really matters to me is addressing

climate change. I'd like to get a financial return. I wouldn't mind getting my money back. I don't expect to get a market risk adjuster. I'm willing to take additional risk, or I'm willing to accept a lower return. That's impact first. The most famous impact first investor today is Bill Gates. Now, Bill Gates has the advantage of having very deep pockets, and he can take that additional risk. And if it doesn't work out, it's not going to affect his lifestyle. But any investor can be an impact first investor. They just have to be aware that this is additional risk, and you and expect market returns. It's really fascinating. So Alice and I both focus in the ESG space. And I feel like what we've noticed at least in the past five, 10 years is it's really shifted to now

talking about sustainability as kind of table stakes for companies. Most companies have sustainability reports. Most companies say they want to be net zero. Sometimes they report on their own. Sometimes they report with different initiatives. How do you think about being critical when you're looking at individual companies or thinking about the space? Because so much of it now is just kind of filler words that a lot of companies are saying because it sounds good and it's what everyone else is doing. How do you think about companies in that way? Right. So first of all, let's understand what the problem is. The problem here is there are no regulations around sustainability reporting, right? But to put our mindset, imagine there were no regulations around

financial reporting. You could report anything you want in the 10K, 10Q financial system. Just go ahead. Whatever you think the investor should know, put it out there. Well, we would have an insane cacophony of financial information. It'd be really hard to compare. And we'd have a lot of exaggeration and the like. Well, that's where we're on a sustainability situation today, right? There are no regulations. Now, the SEC is considering regulating it, but it hasn't yet. And we don't know if that's going to happen. So as a result, companies are trying to report, make themselves look the best they can. And I don't think that's unreasonable, but it creates a lot of problems for investors. So what's the advice that I would have for investors? Number

one advice, be aware of greenwashing. Companies that greenwash, maybe there's a short-term gain, but in the long run, that almost always turns out to be a bad plan. And I think companies greenwash for one of two reasons, either because they intentionally greenwash, they know what they're saying isn't true, and they're just trying to look better. And I think that's a very bad outcome for everyone, including the planet. And then there are companies that accidentally greenwash. What I mean by accidental, what I mean is these net zero goals these companies are setting, many companies, I believe through my research, these goals are real. They're real because these companies recognize that the world is going to decarbonize over

the next several decades. They recognize the trends are unopening. This is not a moment, a political moment, or a consumer-driven moment. This is a moment driven, frankly, by physics of climate change. it's not a moment it's going to be this way for the next several decades and so any company that's got management who thinks long term understands decarbonization is going to change their business and it's going to change virtually every business in the world today it's the big macro trend of the future so if you're sitting there and you see that macro trend you go okay we have to

decarbonize what the scientists tell us is we got to get to zero how do we do that we'll put in place a plan and one way to put on plan is to have a goal without a goal you don't know where you're shooting for. So these net zero goals, I believe in many cases are real. The problem is many companies are setting them without a clear idea, a clear path on how they're actually going to achieve it. And this is where the accidental greenwashing comes in. They want to achieve these goals. They believe it's absolutely necessary from a business perspective to achieve these goals, but they may be mistaken in terms of their ability to reach these goals and the timelines and the cost of doing so. And then when that tension shows up, say it's too costly,

then they're going to find themselves in a greenwashing situation. And as an investor, you don't want to be backing that kind of company either. If you're interested in reading more, good news. The Motley Fool has an article about five stocks taking on climate change, and we've got a link to the article in the notes for this episode. As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. I'm Chris Hill. Thanks for listening. We'll see you tomorrow.