After a bull market like the one we experienced prior to 2022, it can be tempting to stick to the same investment strategies that have been working. But the underlying economic factors are set to be materially different in the coming years, which means the market is likely to look very different from what we’ve seen in the past 10-plus years.
Existing investment treaties do not and cannot advance climate goals. There is a fundamental misalignment between the existing international investment regime—including its centerpiece: investor–state arbitration—and the actions needed to meet the objectives of the international climate regime and avoid catastrophic climate change. For international investment law to support climate goals, we need a wholly new regime for investment governance, not investment protection and arbitration.
Investment is crucial to achieving climate mitigation and adaptation goals. We need substantially more investment in zero-carbon sectors, such as renewable power generation (solar, wind, hydropower, and geothermal), batteries and other energy storage technologies, green hydrogen, electric transportation, and energy efficiency, while phasing out investment in fossil fuels and other high-emission economic activities. The 2022 Intergovernmental Panel on Climate Change (IPCC) report on Impacts, Adaptation and Vulnerability also stresses that investments in mitigation must be coupled with investment in adaptation and climate-resilient infrastructure to help billions in areas of growing climate risk.
International investment law should accelerate climate-friendly, sustainable investment and the phase-out of climate-unfriendly investment. Existing investment treaties and investor–state dispute settlement (ISDS) fail to do either. They were not designed to advance those goals, but to protect economic interests of foreign investors and their investments, regardless of their climate friendliness.
The clashing climate change and investment regimes: Back to the 1990s
The 2015 Paris Agreement’s umbrella treaty, the United Nations Framework Convention on Climate Change (UNFCCC), was adopted in 1992 and entered into force in 1994—a landmark moment that emphasized the need for long-term planning for a climate-friendly future. Its ultimate objective is to stabilize greenhouse gas concentrations in the atmosphere “at a level that would prevent dangerous anthropogenic interference with the climate system.”
In a 1994 report—months before the first Conference of the Parties (COP) to the UNFCCC—the IPCC indicated that “the main anthropogenic sources of [carbon dioxide] are the burning of fossil fuels [among others].” The same report also estimated a carbon budget, which indicated the amount of greenhouse gases we could, starting in 1994, still emit while stabilizing concentrations at safe levels. The report stressed that “stabilization [of greenhouse gas concentrations] is only possible if emissions are […] reduced well below 1990 levels.”
The international community—including states as well as investors—has been on notice since the 1990s: to prevent disastrous anthropogenic interference with the climate system, greenhouse gas concentrations in the atmosphere must be stabilized. To do that, emissions must be reduced well below 1990 levels, which requires transitioning away from fossil energy. Yet emissions have since increased substantially as states and investors have been too slow in adjusting course.
If fossil energy companies have any “legitimate expectation” since the 1990s, it is that states would take steps to phase out their sector. In the International Energy Agency’s (IEA) pathway to net-zero by 2050, “there is no need for investment in new fossil fuel supply”: “Beyond projects already committed as of 2021, there are no new oil and gas fields approved for development in our pathway, and no new coal mines or mine extensions are required.” In the next three decades, trillions of dollars in fossil fuel assets need to be stranded to achieve climate goals, including reserves and projects that fossil and infrastructure companies have continued recklessly to develop.
States need to push more forcefully for the transition away from fossil energy in both the climate and investment regimes. It took 26 COPs for the 2021 Glasgow Climate Pact to call upon states, for the first time, to “[accelerate] efforts towards the phasedown of unabated coal power and phase-out of inefficient fossil fuel subsidies.” The climate regime still needs to toughen up language on the need to accelerate the phase-out of all fossil fuel development.
Similarly, states need to stop maintaining an investment protection regime that—among other flaws—does not even try to regulate investment or to phase out high-emission investments. Since 1994, states have concluded roughly 2000 investment treaties that are still in force. The Energy Charter Treaty (ECT) is an important one from a climate action perspective—but not the only one. All those treaties protect coal, oil, gas, and other high-emission investments that emit well beyond the carbon budget. Even if investment treaties may not have been intentionally designed to thwart climate goals, the fact that they have that detrimental effect can no longer be ignored.
Investment treaties and arbitration make climate action costly and chill climate regulation
Investment treaties and arbitration make it more costly for states to take legitimate climate action, including the phase-out of fossil fuels and the regulation of high-emitting sectors. Under the existing investment regime, companies are allowed to claim monetary compensation from states for policy measures that negatively affect the companies’ interests.
For instance, when a government takes measures to restrict oil and gas exploration or exploitation, stop the expansion of pipelines and other fossil fuel infrastructure, or phase out coal-fired power generation, investment treaties and arbitration allow investors to seek compensation for those measures. In other words, investment treaties and arbitration protect and reward investments that interfere dangerously with the climate system.
Law firms are making sure that companies are aware of this opportunistic use of investment arbitration against the public interest. As one firm advises: “Climate change litigation […] is an opportunity […] for companies exposed to certain climate-related government measures to vindicate their rights. Companies in industries most affected by states’ climate change obligations (e.g., fossil fuels, mining, etc.) should audit their corporate structure and change it, if needed, to ensure they are protected by an investment treaty. […] It is […] important to assess which treaty would best protect the company from any adverse climate-related government measures.”
Even the possibility of climate-related investment arbitration discourages policy action. Denmark, France, and New Zealand have openly admitted that they pushed back their deadlines to phase out oil and gas exploration or exploitation because of investment treaties and the fear of arbitration claims. There may well be other countries that are delaying action or lowering ambition because of the investment regime, but just not admitting it openly.
Fossil companies already account for almost one-fifth of investment arbitrations, and they won about three of every four cases initiated. Without fundamental reform, the investment regime will continue to allow fossil companies to chill climate regulation and to get states (and ultimately taxpayers) to cover losses that result from corporate recklessness.
Climate-focused reform won’t do
Various reform proposals aim to make investment treaties and arbitration more climate friendly, by training arbitrators in climate science; changing how damages are calculated to avoid shifting the risk and cost of decarbonization to states; integrating climate carve-outs, exceptions, or right-to-regulate clauses into treaties; or allowing climate-related counterclaims by states. Proponents of these reforms argue that they are steps in the right direction, even if they are piecemeal approaches.
The international community should not settle for sub-optimal approaches, for three main reasons.
First, climate blindness is far from being the sole issue with the investment regime. Investment protection and arbitration constrain states’ duty and right to regulate not only in the climate policy space, but also in public health, access to public goods, protection of human rights and the environment, and the pursuit of sustainable development. States and other stakeholders have been increasingly critical of broadly worded provisions—including the promises of fair and equitable treatment (FET) and the protection of legitimate expectations, as well as protections against discrimination and indirect expropriation—that work against public-interest regulation. The member states of Working Group III of the United Nations Commission on International Trade Law (UNCITRAL) have identified various problematic aspects of investment arbitration.
Second, there is inconclusive evidence to support that investment treaties and arbitration can perform on their key expected benefits. Existing treaties neither increase the quantity or quality of foreign direct investment (FDI), depoliticize conflicts between home and host countries of investment, promote good governance reform, nor strengthen the rule of law. If a regime cannot achieve its main purposes, and its costs substantially outweigh its uncertain benefits, why put so much effort into fixing it?
Third, it is irresponsible vis-à-vis present and future generations to keep in place a knowingly flawed regime, with uncertain benefits and great known costs, in hopes that tweaking it at the margins will cause the necessary fundamental change. Given the global climate emergency, too much is at stake.
Overhauling investment protection and arbitration in favor of investment governance
The optimal, most effective solution is to build a new international investment regime to help achieve global goals, advancing the types of investments that are desirable, supporting the phase-out of climate-wrecking investments, and preserving and strengthening states’ right and duty to take climate action and other measures in the public interest. States should move away from the existing regime, which puts profit above people and planet, by terminating or withdrawing from existing investment protection treaties and arbitration and not negotiating new ones that do not align with their climate and sustainable development objectives.
From a clean slate, the international community can design a regime that shapes and governs investment to achieve climate goals and the Sustainable Development Goals (SDGs). Investment governance treaties could contain guidance and commitments on governing investment in line with the SDGs, including climate action; establish cooperation mechanisms to address challenges in the governance of international investment, including with respect to intellectual property, technology transfer, and data; and support domestic administrative and judicial systems to facilitate investment governance and enforcement. Importantly, the regime could foster international cooperation, research and development (R&D), and financing mechanisms for climate-aligned investments, including in energy efficiency, renewable electricity, green hydrogen, batteries, recycling, and climate-resilient infrastructure. It could also affirm states’ binding commitments to phase out investment protections and incentives for fossil fuels and other high-emission investments; and create climate justice and just transition mechanisms to protect the rights and interests of those affected by zero-carbon investments.
Earth Institute at Columbia University
This story is republished courtesy of Earth Institute, Columbia University http://blogs.ei.columbia.edu.
Climate action needs investment governance, not investment protection and arbitration (2022, March 18)
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Predictions for the housing market, lower internet costs and stable stocks: Must-read business and investing stories – The Globe and Mail
Getting caught up on a week that got away? Here’s your weekly digest of The Globe and Mail’s most essential business and investing stories, with insights and analysis from the pros, stock tips, portfolio strategies and more.
High interest rates will continue putting pressure on Canada’s housing market
The Bank of Canada this week increased interest rates for the eighth consecutive time but said that it expects to hold off on further hikes to “assess whether monetary policy is sufficiently restrictive to bring inflation back to the 2-per-cent target.” As Mark Rendell reports, the central bank raised its benchmark rate by a quarter of a percentage point, bringing the policy rate to 4.5 per cent, the highest level since 2007. With borrowing costs and mortgage rates at their highest level in years, many potential homebuyers have been shut out of the real estate market, writes Rachelle Younglai. The typical home price across the country is already down 13 per cent from its peak last February amid the bank’s attempts to rein in runaway inflation by reducing access to cheap loans. As such, the bank is predicting home prices will decline further before sales pick up later in the year.
These stocks offer portfolio stability amid rising prices
Rising interest rates were the main contributor to the woes of the stock markets in 2022. Interest-sensitive securities such as REITs, utilities, telecoms and bonds all tumbled as rates steadily increased. Combined with the collapse of tech stocks as the economy that benefited from pandemic lockdowns dissipated, we ended up with all the major stock markets in the red, and the Canadian bond market experiencing its worst loss in four decades. But there were some inflation-beaters. Gordon Pape looks at a number of inflation-beating securities that thrived in a rising price environment and are still doing well, although momentum is slowing.
The clearest sign that inflation is declining
When assessing inflation, central bankers and economists will often exclude food and energy costs, but in a recent report, Karyne Charbonneau, executive director of economics at CIBC Capital Markets, said the Bank of Canada should consider the rapid climb in mortgage interest costs “when judging the underlying inflationary trend.” As Matt Lundy writes, while the bank is raising interest rates to cool demand and tamp down inflation, its efforts are having the opposite effect on mortgage payments, which have jumped 18 per cent in the past year. Although mortgages carry only 3-per-cent weight in how the Consumer Price Index is calculated, the increase is substantial enough that mortgages are now the largest contributor to annual inflation.
Could lower cellphone and internet costs be coming?
Lowering cellphone and internet bills is a top priority for Vicky Eatrides, the new chair of Canada’s broadcast and telecommunications regulator, Irene Galea reports. Unfortunately, Ms. Eatrides is inheriting a commission that is widely seen as slow to make decisions. The continuing legal proceedings of Rogers Communications Inc.’s takeover of Shaw Communications Inc. are attracting unprecedented attention to the inner workings of the telecom industry and the future of cellular service competition in Canada. Meanwhile, two CTRC policies, concerning industry rates for broadband and wireless networks, finalized during the previous chair’s term, are still being debated among industry players. Ms. Eatrides would not reveal specifics related to her plan to lower cellphone and internet costs, but added she hopes to speed up the commission’s decision-making process.
The real savings of owning an electric vehicle
With gas prices yo-yoing this past year, are the savings associated with the lower operating costs of purchasing an electric vehicle ultimately worth it? David Berman, a Hyundai Ioniq 5 owner, compares charging costs for EVs to gas-powered vehicle costs over the same travelling distance. “I’ve driven almost 10,000 kilometres – did I mention that I don’t drive much?” he writes. “I’ve saved about $780 over the past year. Over 10 years, these savings would rise, theoretically, to a total of $7,800.” Additionally, he got a $5,000 federal EV rebate when purchasing the car in Ontario in early 2022, whittling down the nearly $50,000 list price for his vehicle to about $37,200 compared with a hypothetical gas-burning version of itself.
Record-low rental vacancy rate
There are fewer apartments available to rent in Canada than at any time since 2001, according to Canada Mortgage and Housing Corp’s annual rental report released this week. As Rachelle Younglai reports, the country’s apartment vacancy rate dropped to 1.9 per cent in 2022 – down from 3.1 the year before and the lowest level in more than two decades – owing to higher net migration, the return of postsecondary students to the campus and the spike in borrowing costs. The country’s largest rental markets were under particular stress, with Toronto’s apartment vacancy rate dropping to 1.7 per cent last year from 4.4 per cent in 2021, Montreal to 2.3 per cent from 3.7 per cent and Vancouver to 0.9 per cent from 1.2 per cent. The national average monthly rental price for a two-bedroom rose 5.6 per cent to $1,258 last year, with Vancouver and Toronto commanding the highest rents at an average of $2,002 and $1,765 monthly.
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Now that you’re all caught up, prepare for the week ahead with the Globe’s investing calendar.
3 reasons dividend stocks can lead the next bull market
Dividends may make up a larger portion of the total return
Over the past decade, dividends have contributed less than 25 per cent of the S&P 500’s total return, as years of low interest rates helped inflate asset valuations. Historically, though, dividends have made up a larger portion of the market’s total return. Dividends have accounted for an average of 40 per cent of the S&P 500’s total return since the 1930s, according to data from Fidelity Investments.
If inflation remains high, it will be very difficult for the market to grow via multiple expansion as it has during the past 10 years. This opens the door to dividends regressing to the long-term mean and making up a larger percentage of the total return than it has recently.
Valuations are attractive for dividend stocks
Dividend-paying stocks are currently undervalued relative to the broader market judging by the price-to-earnings (P/E) ratio. The P/E for dividend-paying stocks in the S&P 500 Dividend Aristocrats was lower than the P/E for the S&P 500 as of Dec. 30, 2022. This suggests dividend-paying stocks may offer better value for investors compared to non-dividend-paying stocks.
This is common during a bear market like the one we experienced last year. The good is thrown out with the bad, as companies with consistent earnings are sold off with the same urgency as less profitable companies. This creates an opportunity that can be identified by using the P/E ratio.
Great companies with robust business models and long histories of profitability rarely go on sale, so this can be a great opportunity to add quality names to a portfolio.
Better track record
Dividend-paying stocks have outperformed non-dividend-paying stocks over long periods of time. A study of the S&P/TSX composite index from 1986 to 2021 by RBC Global Asset Management found that stocks growing their dividend had an average annual return of 11.2 per cent compared to 6.5 per cent for the overall index and an abysmal 1.4 per cent for non-dividend-paying stocks.
This trend has even held up during economic recessions, as dividend-paying stocks have shown to be more stable and less volatile than non-dividend-paying stocks. For example, the same RBC study found that dividend-paying stocks in the composite index had a standard deviation (a measure of volatility) of 13.9 per cent, compared to 23.3 per cent for non-dividend paying stocks. This indicates dividend-paying stocks have been less volatile over the long term.
Remember that investing in the stock market carries risks and a professional investment adviser can help assess your investment goals and risk tolerance and develop a personalized investment strategy tailored to your specific needs and circumstances.
Taylor Burns is an investment adviser at Manulife Securities Inc. and Balanced Financial Wealth Management. The opinions expressed are those of the author and may not necessarily reflect those of Manulife Securities Inc.
Weaker Orders, Investment Underscore Ailing US Manufacturing
(Bloomberg) — US manufacturing showed more signs this week of succumbing to the Federal Reserve’s aggressive interest-rate hikes that are taking a bigger bite out of demand and risk upending the economic expansion.
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The government’s first estimate of gross domestic product for the fourth quarter and a report on December factory orders for durable goods pointed to sizable downshifts in both spending on business equipment and bookings for core capital goods.
The durable goods report Thursday showed orders for nondefense capital goods excluding aircraft — a proxy for business investment — dropped 0.2% in December after no change a month earlier. Over the fourth quarter, bookings for these core capital goods posted the weakest annualized gain since 2020. Shipments, an input for GDP, decreased for the third time in four months.
“Taken in tandem with the output data where industrial production has declined in six of the past eight months, it is increasingly evident that the manufacturing recession is well underway,” Wells Fargo & Co. economists Tim Quinlan and Shannon Seery said in a note to clients.
Also on Thursday, the GDP report showed outlays for business equipment dropped an annualized 3.7%, the largest slide since the immediate aftermath of the pandemic. That decline was part of a broader demand slowdown, which included a smaller-than-forecast advance in personal spending.
While GDP growth beat expectations, details of the report that offer a clearer picture of domestic demand were decidedly weak. Inflation-adjusted final sales to private domestic purchasers, which strip out inventories and net exports while excluding government spending, rose at a paltry 0.2% rate — also the weakest since the second quarter of 2020.
Last month’s retreat in core capital goods orders indicates manufacturing output, which already registered sharp declines in the final two months of 2022, may struggle to gain traction this quarter.
Read more: Weak US Retail Sales, Factory Data Heighten Recession Concerns
The slump in housing is also spilling over into producers of non-durable goods. Shares of Sherwin-Williams Co. tumbled this week after the paintmaker pointed to pressures stemming from a weak residential real estate market and inflation.
“We currently see a very challenging demand environment in 2023 and visibility beyond our first half is limited,” Chief Executive Officer John Morikis said on a Jan. 26 earnings call. “The Fed has also been quite clear about its intention to slow down demand in its effort to tame inflation.”
An accumulation of inventories only adds to the headwinds. Inventory building accounted for about half of the 2.9% annualized increase in fourth-quarter GDP. For the year as a whole, inventories grew $123.3 billion, the most since 2015.
With demand moderating, there’s less incentive to ramp up orders or production as companies make greater efforts to sell from existing stock.
In addition to the aforementioned data, the latest surveys of manufacturers show sustained weakness. Measures of orders at factories in four regional Fed surveys have all indicated multiple months of contraction.
All surveys released so far for this month are consistent with an overall contraction in activity that extends back through most of the second half of 2022.
Next week, the Institute for Supply Management will issue its January manufacturing survey and economists project a third-straight month of shrinking activity.
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