By Daniel Cohen
So far 2022 has been a very difficult year for most investors. Not only has the stock market corrected over 20% as of this writing, but the bond market has also experienced a severe correction with losses currently in the area of 12%. One relative bright spot in the market has been dividend paying companies which have held up better than the growth stock favorites of the past years. Though the value of most dividend paying companies’ shares is also down this year, in general, reliable dividends have historically attracted investment in their shares, especially in difficult market environments. This time is no different.
Notably this year, the energy sector has been the strongest recent performer with gains for the oil and gas production & exploration sector up over 30%. Two of the largest energy companies, Exxon and Chevron, pay very attractive dividends and have had an outstanding year so far. How can these two companies, and the sector in general, be such an outperformer when there has been a high-powered movement to pressure pensions and other institutions to divest of all fossil fuel investments? In a word, value!
In peaceful and prosperous times, it makes sense to invest in new ideas and technologies, especially if they benefit society. I don’t know anyone who doesn’t desire cleaner air and water, and a healthy environment. Billions of dollars have been invested in the past decade in clean energy companies, and there have been some big winners, like Tesla, which became profitable two years ago and continues to grow, but there will be many losers who will eventually go out of business. Clean energy companies including the largest, Tesla, have been volatile investments, and losses this year have exceeded the broad market indexes.
Worthy Causes or Premature Assumptions?
While billions of dollars were being committed to clean energy companies, similar amounts were being divested from traditional oil production and exploration companies. Last year a majority of New York City’s public employee pension funds divested from securities of fossil fuel companies. At the time, Mayor de Blasio stated, “our first-in-the-nation divestment is literally putting money where our mouth is when it comes to climate change.” The European Union’s biggest pension fund announced a similar plan around the same time. Other large institutions and public investors also divesting from fossil fuels included Harvard University, Boston University, and the State of Maine, among countless others. Are they voluntarily forfeiting potential gains?
Time will tell if divesting is the best long-term strategy. In the short run, it seems to have been the wrong decision from an investment perspective. A report last year from a leading lobbyist for divestiture of fossil fuels announced that divesting is a sound financial strategy and that fossil fuels are a bad bet financially. It would be interesting to see what their updated report states. Politicians who influence decisions for city and state pensions funds impose their views on the companies in the funds’ portfolios. Is that fair to the employees or retirees dependent on that pension if their views differ?
Clearing the Air
Early in my career there were divestiture movements against the tobacco companies. They agreed to pay large amounts to settle liability suits and severe restrictions were placed on the industry’s marketing and packaging. Financially devastating, right? Well, the tobacco industry has survived by continually increasing their prices, which has more than offset their lower volume of cigarette sales. Tobacco companies even tried to evolve and appeal to environmental, social, and governance (ESG) investors by developing e-cigarettes and other products claimed to be healthier. To this day, many tobacco companies pay high dividends that have been sustained for many decades with regular increases and that have served their shareholders well. Many retirees depend on those quarterly dividend payments.
There is a better way than divesting a portfolio from an entire sector of the economy, especially those crucial to so many vital components of our economy, like manufacturing, energy and transportation.
A leader in clean energy, NextEra, is a good role model for companies like Exxon and Chevron. NextEra was formerly known as Florida Power and Light, a utility serving Florida. They expanded through acquisitions and using profits from their core utility business invested in solar and wind to become the world’s largest producer of wind and solar energy. NextEra has an impressive history of increasing its earnings and dividends annually. Exxon, Chevron and other major oil and gas companies are following NextEra’s lead and are investing a portion of their profits into clean energy opportunities.
Chevron has become the most active investor in carbon capture and pledged to invest $10 billion on biofuels, hydrogen production, carbon capture and other clean energy technologies. The investments by Chevron only represent 10% of their annual capital spending, but if those investments prove successful, they will likely be increased in the future to create additional growth opportunities.
Dictating Winners & Losers?
In a recent rebalancing of their ESG (Environmental, Social and Governance) index, the S&P Dow Jones Indices listed Exxon as one of the top ten best holdings in the world in their ESG index, while Tesla was removed from the index. This is a big turn of events as a leading oil and gas producer tops the list while the largest producer of electric vehicles is removed from the list. Tesla CEO, Elon Musk, immediately called the ESG rating an “outrageous scam.”
Making investment decisions based solely on ESG factors seems to be a mistake. There is nothing wrong with excluding companies from an investment portfolio based on one’s values. These decisions are personal and there is nothing wrong with an individual sacrificing their own profit to maintain their values. However, decisions by politicians to direct large pools of money toward certain companies or industries or away from others is viewed by many as an abuse of power.
In the short term, excluding oil and gas investments from pensions and endowments has been a poor investment decision. The former beneficiaries of the funds have lost out on the strong gains and regular dividends. Legislation has recently been proposed in Congress to require large funds to collect instruction from clients how to vote shares of the companies they own rather than allowing the fund managers to make all the decisions to limit the concentrated power of some large pools of capital.
Letting the Markets Work for Us
As an investor myself and financial advisor to hundreds of other investors, I know it takes discipline to be successful over the long-term. It is important to diversify with leading holdings in the major industries. Often when investments in a critical economic sector are out of favor and relatively cheap as the energy sector was two years ago, that may present an attractive investment opportunity. Dividends matter and companies that have a history of consistently paying and raising those dividends tend to hold up better than companies that don’t pay dividends, especially during difficult market environments, like today’s.
It has been my experience over more than 25 years that dividend-paying stocks and other income producing investments are ideal holdings during market contractions but attempting to pick winners & losers based on current social mores has not produced the best results.