Fossil fuels: To exclude or not to exclude?

Climate change is evident and the need to transition to cleaner forms of energy is increasingly a no-brainer. But opinions differ on how we can play our part, and how the decisions we make with our investments matter. 

Perhaps one of the biggest – and thorniest – discussions around all of this is fossil fuels. Should we be including fossil fuels in our portfolios to help speed up the climate transition? Or should we lay down the law early, excluding all so-called “nasties”?

It’s a complex and emotive conversation being had by investors around the world, complicated by the advent of “greenwashing”, which has muddied the waters on how we really define sustainable in the first place.

With confusion rife and a climate emergency on our hands, what’s the right answer when it comes to fossil fuels? Let’s discuss.

What is greenwashing and how can you avoid it?

There are plenty of investors who earnestly put money into products that are labelled as “sustainable” (or an equivalent) that have had a nasty surprise when peeking under the bonnet to see a big bad oil company in the top holdings – by way of example – and have been confronted with what is now widely being referred to as “greenwashing”.

This is the term given to a product, company or investment which is advertised – either falsely or misleadingly – as something that is “sustainable”, “green” or just all-round better for the planet, when it’s not. It can be a shock and a disappointment to find out that a product you’ve purchased with the aim of having a positive impact on the world actually includes shares in a company which seems to directly contradict that goal.

The best way to avoid getting a nasty surprise like this is to check the details of what you’re investing in (ideally before you’ve purchased it), which you can do by browsing the top holdings in a fund. Not only is this information usually very easy to find, but it gives you a good idea of what sort of businesses your money is being pumped in to, and if there are any unwelcome guests that you weren’t expecting to see.

But – let’s say that you do come across a big oil or gas company in your fund’s top 10 holdings – do you really need to withdraw your investment on this basis alone?

Fossil fuels and the great energy transition

Many of us agree that, in order to combat climate change, significant changes to the way we produce energy are needed – urgently. We need to move away from fossil fuels and adopt more sustainable methods of power generation, such as wind, solar and wave power, that can marry our demand for energy with a cleaner and healthier planet.

There are a number of ways to achieve this, a key one being the reduction – and, ideally, the complete lack of – carbon emissions. Some investors prefer to put their money only into products and companies which operate without causing harm to the environment, excluding fossil fuels altogether. But there is a growing proportion of investors who take a different approach and argue that an energy transition needs to take place, and that some of the large fossil fuel companies are crucial to making that happen.

Essentially, the point is that – rather than excluding fossil fuels firms altogether – there is merit in keeping them in your portfolio while actively encouraging them to adopt more sustainable practices, such as by the way you vote or engage with their products, and urge them to gradually become more climate-friendly businesses. This is especially relevant when it comes to actively-managed funds, in which the fund manager can adjust the holdings to reflect changes being asked for by investors, as directed by the board.

Many of the larger fossil fuel companies are already investing in change, such as Shell’s Energy Transition Strategy with the aim of becoming fully net-zero by 2050, or BP’s pledge for more than 40% of the capital it invests to go to bioenergy, electric vehicle charging, renewables and hydrogen technology by 2025. And if returns are on your radar, these big companies often ensure a relatively stable flow of income too.

It’s not a wholly concrete argument, and critics will – rightly – point out that, ultimately, the big bad fossil fuel companies will still get your money. And there are limits to how much investors can do to force them to adopt more sustainable practices. But some of the biggest businesses in the world are in the fossil fuel industry and are actively siphoning money into renewable projects. The two things are not necessarily mutually exclusive, and the cooperation of these big firms could be crucial in giving the energy transition the momentum it needs to outpace irreversible climate change. 

Some argue that, if we want to reach our net-zero targets and make the world a cleaner place, it may be advantageous for us to bring the fossil fuel giants with us on that journey.

The verdict on fossil fuels

Ultimately, whether you choose to exclude fossil fuels from your portfolio or not is a personal choice. You might feel better in the knowledge that you’re investing in products that don’t have a single sliver of oil or gas in them, but equally, you might feel that you’re contributing to the energy transition by backing big firms that reinvest their profits into renewables – which could mean they’re not perfect today, but they’re the ones with the money to make a difference tomorrow. Really, it’s down to you.

At the end of the day, it’s not up to an investment firm to tell you which option is right. But regardless of your choice, make sure to check where your money is really going. Get on Google and search for the top holdings in a fund, preferably before you’ve invested in it. You may find it steers clear of fossil fuels, or you may discover that it’s one of the growing number of products that incorporates them. Once you know what the fund is really up to, you can decide if it maps to your personal values, and whether or not it’s a good fit for your money. 

All data correct as at February 2023.