There is a potential storm brewing between scheme members and pension providers over investing in fossil fuel companies.

Six out of 10 UK adults do not want financial firms to support or profit from fossil fuel extraction. That’s what a recent survey by Opinium Research showed. Only 9% opposed such measures.

But for the millions of UK citizens who have an auto-enrolled pension, it’s likely their portfolio is invested in oil and gas companies.

Why do pension providers invest in fossil fuels?

Given member antipathy to the fossil fuel industry and providers wanting to make their pension pots more sustainable, it would be reasonable to expect a reduction in holdings of the oil and gas majors.

But that’s often not the case. As I outlined in my last post, cost constraints mean pension providers favour equity indices as their preferred investment.

While pension providers have made investments more sustainable by using ESG-tilted indices, this does not mean oil and gas companies are excluded from the portfolio.

As the replies to this LinkedIn post illustrate, tilting an ESG index tends to happen at a sectoral level. This means those companies the best sustainability characteristics within each industry are over-weighted rather than a sector, such as oil and gas, being excluded from the basket.

The benefits of ownership

This is not a bad thing. As explained in this post, by holding stakes in these companies asset owners and managers have been able to work together to persuade oil and gas majors to adopt net zero targets.

If pension schemes had not held these stakes, these firms might have not adopted these net zero targets and become a part of the green transition.

There is also a risk to getting rid of oil and gas companies from portfolios. Executive boards would still need financing and might find this capital from those with fewer sustainable principles which would hinder the green transition.

Collective benefit, individual risk

While there is merit to the idea of all investors working together to turn one of the most polluting industries into a less harmful activity, there are no guarantees this will work.

As Dan Mikulskis explains in this post, the plan is for fossil fuel firms to use their short-term cash flows from sales of oil and gas to move to less carbon-intensive forms of energy generation. But for this to work, there are a number of hurdles to be overcome.

For a smooth transition to occur just the right amount of cash has to be invested to ensure new green sources of energy emerge just as old sources of energy are retired. If governments demand a more rapid transition this could come unstuck.

There is also the question whether the oil and gas companies can complete this metamorphosis. Changing your business model is a difficult ask for any company and bedevilled by risk.

In the future, new green energy firms many emerge while older oil and gas majors become obsolete. In other words, investing in oil and gas majors could saddle scheme members with significant transition risk.

Let’s step away from the collective benefit of investors getting this industry to change and instead ask what you, as an individual investor, would want? I wouldn’t want to take the risk of the oil and gas sector being able to complete the transition smoothly so I’d rather avoid the sector. Would you answer any differently?

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