GMO’s Jeremy Grantham and Lucas White believe we’ve reached the fork in the road when it comes to our ability to mitigate climate change risks in 2018 and beyond. In fact, we have embarked in the race of our lives.
Mr Grantham says one material advantage is the accelerating burst of green technologies, at a rate faster than anyone expected 10 or even 5 years ago, and that may – in the future – be able to offset much of the accelerating damage from climate change and other problems.
Mr White talks to GMO’s valuation-based approach to delivering high total return by investing in companies focused on climate change mitigation and adaptation. Its universe is global in nature and focused on companies that they believe will benefit in a world increasingly impacted by climate change, either through mitigation or adaptation solutions. This includes clean energy, batteries and storage, electric grids, energy efficiency, agriculture and water, as well as companies that service these industries.
Jeremy Grantham, Co-founder, Chief Investment Strategist and member of GMO’s Asset Allocation team, said:
- 2018 was the year that the general public finally got the point. The latest poll revealed that 73% of Americans feel concerned about the environment. In 2015, this number stood at just 63% – and that 10 points is utterly vital. You’re beginning to eat into what was the hard-headed resistance regardless of the facts, and we are chewing into that, including 3 points in the year 2018 itself. Any advance on the current ratio of 73:27, and we begin to outnumber them 3 to 1. It is indeed a new ballgame.
- A paper from the Proceedings of the National Academy, nicknamed ‘Hothouse Earth’, looks at why, even at 1.5 degrees, we’re not free from the considerable risks associated with the various aspects of the environment getting out of control in self-reinforcing cycles. For example, ice melting in the arctic – where ice reflects sun and then dark ocean water absorbs heat – causes more ice to melt. Similarly, the melting of the tundra releases carbon dioxide (and methane, which is 80 times worse), and the more that is released, the hotter the temperature, and the more the tundra melts.
- On the damage front, ‘Hothouse Earth’ outlines how, in 2018, the melting of the Greenland icecap has increased to a rate three times faster than that of the year 2000. If this acceleration continues, all the estimates are too conservative. And the scariest one of all is that the oceans have been absorbing 40% more heat than has been assumed by the UN in all previous reports. And the oceans absorb 93% of all the heat, with the remaining 7% going into the atmosphere, the soils, and the forests. So, that is the ballgame. And what that means is really the entire system is 40% more sensitive to carbon dioxide release than has been calculated. So, whatever we thought we had to do, that report really means we have to do 40% more, or 40% faster.
- On the technology front, solar and wind continue to drop. They are really now taking bids below the variable cost of coal plants and gas plants and – state by state – wind and solar is becoming the lowest cost provider of marginal electricity. What to do with storage remains a problem, but battery storage continues to fall at double-digit rates, about 12% a year. In 2000, Tesla wanted $1,000. In 2010, Tesla wanted a kilowatt an hour, and next year they’re aiming for below 100, so that’s more than a 90% reduction in 10 years, approximately. And electric car sales have still continued to grow at 25% a year. China had a down year in car sales for the first time in years, but their electric cars were up quite nicely, and Tesla Model 3 is the best-selling US sedan almost out of the starting block. They will also announce a new, cheaper crossover vehicle this year.
- In 2018, $7 billion in venture capital investment went into agriculture: the largest disintermediated industry. This is roughly 13% of GDP and has been left totally alone until now, but suddenly the world is bustling with potential disintermediates going directly from the farmer selling the higher-valued crops to the General Foods of the world.
- My favourite development – a bio-engineered insecticide – has found a way of extracting RNA, which is the engineering instructor to DNA, telling it what to do. The problem for researchers has been that, although they knew it was an invaluable item, it was too expensive, at $1,000 a gram. This new Boston-based enterprise has knocked it down to just 35¢ a gram, if you can get your brain around that. That is the very living definition of disintermediation, or disruption. And their target for next year is 10¢ so, suddenly, the research labs of the world are filling up with a new variable to test.
- And to celebrate the flexibility of this, they themselves set a target to attack one of the more obvious pests: the Colorado beetle that feeds on potatoes. They have one gram of their solution designed only for Colorado beetles (no other insert on the planet), which goes into 10 gallons of water, which spreads over an acre. The droplets sit on the leaf, the Colorado beetle eats it, and the instructions basically go, “Are you Colorado beetle? Yes? If so, go to this place on your DNA and turn this particular switch,” and the company beetle continues to eat the potato but has lost the ability to process it as food, and it dies of starvation and drops conveniently to the floor of the field and is digested happily by its fellow insects. And that is merely the beginning of what will be a flood, in the next several years, of improved ways of dealing with pesticides and also improved seeds.
- In conclusion, I believe we will have plenty of green solutions in 30 years to get all our job done. That will not be the problem. The problem will be the damage that we’ve inflicted on the planet over 30 years, and the fact that there’s enormous inertia in the system, water levels and the temperature will continue to rise for quite a few decades, and – in the case of water – hundreds of years after we actually turn the tap off, and that’s the scary thought for me.
Lucas White, Lead Portfolio Manager of the GMO Climate Change Strategy, said:
- GMO is focused on investing in companies that help to combat climate change in some way, shape or form, and the two main categories of companies that we’re looking at are those either helping to mitigate climate change, or helping the world adapt to climate change. On the mitigation side, we’re looking at clean energy companies and alternative energy companies such as wind, solar, geothermal and clean power generation.
- We looked at electric grid companies because when you’re dealing with intermittent renewables the big challenge is incorporating a lot of renewables into the electric grid. You don’t know when they’re going to generate electricity and when they aren’t, because it depends on when the wind is blowing or when the sun is shining, and our grid needs electricity at all times. It can’t be just wherever it shows up
- A lot of work needs to be done on the electric grid to be able to incorporate a larger proportion of renewables, or we need a solution for storage – a utility-scale store – and historically utility-scale storage has been a pretty small fraction of what goes on in the electricity-generation industry. Going forward, we obviously expect it to have a bigger presence.
- We’re looking at other companies involved in incorporating renewables into our grid, at electric grid companies that are focused on enhancing and building out the grids and making them capable of incorporating a larger proportion of renewables, and at utility-scale storage companies. We see this as a nascent industry, but it’s certainly something that we’re keeping our eye on and paying attention to.
- Energy efficiency effort is great for helping to mitigate climate change. If you can just use 20-30% less energy to get the same unit of work done, that’s brilliant. So whether that’s energy-efficient building material, energy-efficient lighting, energy-efficient electrical components or electric vehicles themselves, anything that reduces our energy impact on the world is brilliant.
- Looking at electric vehicles as an example, we believe it’s a wave that’ll take over the world, and they are the future of the automobile industry. Right now, the big players are Tesla in the US and BYZ in China, but BMW, Mercedes, Volvo, Ford and GM are also getting into the game. We want to be smart about how we allocate capital and, in the absence of knowing who’s going to win the market-share game and when you’re looking at very expensive valuations for companies like Tesla and BYZ, we look for other ways to express that view. And we may do it via lithium, nickel, cobalt, copper – the major materials that go into the production of electric vehicles.
- Copper is used three or four times as much in an electric vehicle as in an internal combustion engine vehicle, and the whole electric vehicle-charging infrastructure is going to be very copper-intensive as well, so we look for other ways of expressing the same kinds of views. We might not be in the most obvious companies.
- On the adaption side, the two big things are food and water. Agriculture is heavily impacted by climate change, so any company focused on keeping agricultural productivity as high as possible in the face of all these extreme weather events, extreme hot days, and extreme downpours, and floods and droughts and everything else would fit within our universe. These could be irrigation companies, precision agriculture companies, fertiliser companies, and companies working on drought-resistant seeds.
- It’s a similar story with water. Climate change has a major impact on water distribution and water pattern. You end up having more water than you ever wanted in some places and not enough water in other places. So, treating water like the natural and valuable resource that it is going to become increasingly important in a world impacted by climate change. So those companies focused on recycling of water and purification fall within our universe.
- We see a lot of growth coming down the pike for those kinds of companies. Climate change isn’t something that we’re going to address in the next 5 or 10 or 20 years; this is something that’s going to take decades. It took us 150 years to build up the energy infrastructure that we have in the world today, and it’s going to take many decades to build out a new energy infrastructure that’s cleaner and more reliable in some ways.
