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Coal, methane, oil and gas are the latest targets in the war against carbon arising from the United Nations COP26 Climate Summit. Kim Parlee speaks with Michael Craig, Head of Asset Allocation and Derivatives, TD Asset Management, about the investment opportunities from the transition to renewable energy.
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[MUSIC PLAYING]
- Michael, always good to have you with us. I think the obvious impacts for a lot of people when we see rising commodity prices, rising oil prices. But from your perspective, I'll say this greater perspective, what was the key takeaway from COP26 for you?
- Yeah, sometimes, Kim, it's the all but the obvious. And the obvious was right at the end when there was an announcement on reducing coal, which actually fell short of what was aimed at earlier. But the next day, you saw coal stocks sell off materially. So this is-- it's right in front of you. As soon as you get a policy shift in a particular industry, you see the reaction of the markets right away.
And this year, we're seen coal prices go materially higher. But those who-- companies that are extracting coal not follow with that rally as much. And these are the risks. 10 years ago, that's a very different dynamic. But today, it's going to be a constant threat to companies that are exposed to that policy risk on a global setting.
- Can you maybe just tell us a bit more when you talk about policy risk? I know one thing that you and your team are taking a look at is something called carbon intensity and what that means. What is that? And why should I care as an investor?
- So part of our job as fiduciaries is to constantly look at emerging risks to our portfolios. And carbon intensity is certainly an emerging risk on a number of fronts. First, in terms of measurement, it's really the weighted average carbon intensity of a portfolio. It's the direct carbon that a company creates and the indirect carbon it creates through such things as electricity usage divided by sales. So it's a metric like many other things that we look at in companies that we invest in.
We then aggregate that on a portfolio level to get a sense of where our hot spots are. And look, like any type of risk, you're trying to manage it. You're not trying to exclude things, but understand where we sit today. Over time, we'll expect to see that carbon intensity fall. But it's a first step to really knowing where we're at, understanding the pollution that our portfolios and our investments are creating, and understanding where we can perhaps engage with companies to set a cleaner path for their businesses and for our clients' portfolios.
- Let me ask a dumb question then. So if you were to say, the higher the carbon intensity, the higher the risk to the company that is involved in that, which then could be translated into share price over time because they're more exposed to that risk.
- 100%. The thing about carbon is, 30 years ago, it was something that had no value. Today, it's something that has a lot of value. And if you're consuming it as a company, it's costing you money. And we want to be on top of that risk within our portfolios to ensure that's properly managed.
- So the flip side of this, of course, where carbon intensity, not great from a company in terms of how they have to manage it. But the other side, there's got to be some opportunities that you're seeing coming out of COP26 as well.
- Certainly, the global carbon market is inching towards becoming a much more consolidated venue. It's not there yet. It's still a bit fragmented. Europe is certainly well ahead in terms of developing a unified carbon market that covers well over 1/2 their industry. But even in North America, we're seeing the California market as well-- which also includes Quebec-- start to emerge as a place where companies will need to buy carbon credits in order to pollute.
Because ultimately, this is putting a price on pollution. And the nice thing about this, it's created a market much like other commodities, where we can go in and trade carbon. And quite frankly, it doesn't take a rocket scientist to understand that the price of carbon is going to be going higher through simply through regulation. So we look at this as a potential opportunity to add a new asset to our portfolio. So it is fairly uncorrelated to our core holdings, ultimately leading to a better experience for our clients.
- Hmm. I know as well, for the past couple of years, of course, TDS Management has been taking a look at real assets, infrastructure, those types of things, which, again, different ways to allocate capital. Tell me how that strategy, you expect that playing out over the next little while. Because I think it's things like wind turbines and battery factories or some things that I know I've heard about you've invested in.
- Yeah, we're really, really excited about this space. Our colleagues that we've joined with since joining with the Greystone really are experts in the field, real excited about committing current capital and future capital of the space. And to your point, the world needs a lot of new infrastructure. Mark Carney's talked about $114 trillion dollars of capital required to electrify the global economy by 2050.
So there's a real demand for capital and tons of opportunity in terms of new sources of energy, gigafactories, et cetera, a lot of them in our backyard in Canada, which is great. And so this is a tremendous new asset class. It's a great way to diversify our portfolios and add very, very attractive returns along the way. So really excited about this space. And we'll continue to look for opportunities to allocate it as our teams scour the world for investments.
- Michael, thanks so much. As always, great having you on.
- It's my pleasure, Kim. Good night.
[MUSIC PLAYING]
- Michael, always good to have you with us. I think the obvious impacts for a lot of people when we see rising commodity prices, rising oil prices. But from your perspective, I'll say this greater perspective, what was the key takeaway from COP26 for you?
- Yeah, sometimes, Kim, it's the all but the obvious. And the obvious was right at the end when there was an announcement on reducing coal, which actually fell short of what was aimed at earlier. But the next day, you saw coal stocks sell off materially. So this is-- it's right in front of you. As soon as you get a policy shift in a particular industry, you see the reaction of the markets right away.
And this year, we're seen coal prices go materially higher. But those who-- companies that are extracting coal not follow with that rally as much. And these are the risks. 10 years ago, that's a very different dynamic. But today, it's going to be a constant threat to companies that are exposed to that policy risk on a global setting.
- Can you maybe just tell us a bit more when you talk about policy risk? I know one thing that you and your team are taking a look at is something called carbon intensity and what that means. What is that? And why should I care as an investor?
- So part of our job as fiduciaries is to constantly look at emerging risks to our portfolios. And carbon intensity is certainly an emerging risk on a number of fronts. First, in terms of measurement, it's really the weighted average carbon intensity of a portfolio. It's the direct carbon that a company creates and the indirect carbon it creates through such things as electricity usage divided by sales. So it's a metric like many other things that we look at in companies that we invest in.
We then aggregate that on a portfolio level to get a sense of where our hot spots are. And look, like any type of risk, you're trying to manage it. You're not trying to exclude things, but understand where we sit today. Over time, we'll expect to see that carbon intensity fall. But it's a first step to really knowing where we're at, understanding the pollution that our portfolios and our investments are creating, and understanding where we can perhaps engage with companies to set a cleaner path for their businesses and for our clients' portfolios.
- Let me ask a dumb question then. So if you were to say, the higher the carbon intensity, the higher the risk to the company that is involved in that, which then could be translated into share price over time because they're more exposed to that risk.
- 100%. The thing about carbon is, 30 years ago, it was something that had no value. Today, it's something that has a lot of value. And if you're consuming it as a company, it's costing you money. And we want to be on top of that risk within our portfolios to ensure that's properly managed.
- So the flip side of this, of course, where carbon intensity, not great from a company in terms of how they have to manage it. But the other side, there's got to be some opportunities that you're seeing coming out of COP26 as well.
- Certainly, the global carbon market is inching towards becoming a much more consolidated venue. It's not there yet. It's still a bit fragmented. Europe is certainly well ahead in terms of developing a unified carbon market that covers well over 1/2 their industry. But even in North America, we're seeing the California market as well-- which also includes Quebec-- start to emerge as a place where companies will need to buy carbon credits in order to pollute.
Because ultimately, this is putting a price on pollution. And the nice thing about this, it's created a market much like other commodities, where we can go in and trade carbon. And quite frankly, it doesn't take a rocket scientist to understand that the price of carbon is going to be going higher through simply through regulation. So we look at this as a potential opportunity to add a new asset to our portfolio. So it is fairly uncorrelated to our core holdings, ultimately leading to a better experience for our clients.
- Hmm. I know as well, for the past couple of years, of course, TDS Management has been taking a look at real assets, infrastructure, those types of things, which, again, different ways to allocate capital. Tell me how that strategy, you expect that playing out over the next little while. Because I think it's things like wind turbines and battery factories or some things that I know I've heard about you've invested in.
- Yeah, we're really, really excited about this space. Our colleagues that we've joined with since joining with the Greystone really are experts in the field, real excited about committing current capital and future capital of the space. And to your point, the world needs a lot of new infrastructure. Mark Carney's talked about $114 trillion dollars of capital required to electrify the global economy by 2050.
So there's a real demand for capital and tons of opportunity in terms of new sources of energy, gigafactories, et cetera, a lot of them in our backyard in Canada, which is great. And so this is a tremendous new asset class. It's a great way to diversify our portfolios and add very, very attractive returns along the way. So really excited about this space. And we'll continue to look for opportunities to allocate it as our teams scour the world for investments.
- Michael, thanks so much. As always, great having you on.
- It's my pleasure, Kim. Good night.
[MUSIC PLAYING]
