Investors adore an oil or coal company that finds as much — or more — oil or coal than it produces. If the company depletes its reserves year after year, they assume it has opted for slow-motion suicide.
Some energy companies are superb at restocking their shelves, so to speak. Exxon Mobil's additions to its reserves have exceeded its oil and gas production for 19 years running. No wonder its share price keeps rising. What could spoil this megaparty for Exxon investors? A series of dud exploration plays, to be sure, or a plunge in oil prices.
Here's another scenario: Suppose those reserves, or a big chunk thereof, are never burnt because of global warming?
Global warming and climate change have become clear and present dangers to the health of the planet. Some scientists argue that we've already reached the point of no return; others say that we can still spare ourselves from crispy bacon status if we make radical cuts in carbon output in the very near future.
To limit global warming to two degrees Celsius above estimates of temperatures that prevailed before the Industrial Revolution, many climate scientists say that carbon dioxide in the atmosphere must be stabilized at 450 parts per million (ppm) of carbon dioxide equivalent. In May, an atmospheric station in Hawaii reported a reading of 400 ppm, a 25 per cent rise over the past 55 years and a rate of increase three times faster that it was in the early 1960s.
If anything, the climate scientists should be sent to the pillory for underestimating the rate of change. For evidence, look at the rapidly melting polar ice cap and the shipping companies' giddy plans to use the Northwest Passage as a shortcut between Europe and Asia.
How much oil, gas and coal would have to be left in the ground to prevent runaway CO2 buildup? It's a question that is gripping more than the usual greenies and hapless United Nations climate change officials. The International Energy Agency (IEA), universities and enlightened analysts are sending out dire warnings as the 400 ppm milestone is breached.
The concept of leaving reserves untouched for the sake of the planet became a talking point in capital markets this spring, when a non-profit research group called Carbon Tracker and the Grantham Research Institute on Climate Change, part of the London School of Economics, issued a paper called "Unburnable Carbon 2013: Wasted Capital and Stranded Assets." The report concluded that if we want to contain the rise in global temperatures to two degrees C or less, the maximum amount of CO2 we can spew into the atmosphere between now and 2050 is 1,075 gigatons of CO2—and even that limit would only give us a 50 per cent chance of success. It would also mean that about two-thirds of the Earth's estimated oil, gas and coal reserves would have to stay underground. The IEA agrees.
In the foreword to the Carbon Tracker report, Sir Nicholas Stern, the former World Bank chief economist who produced the seminal "Stern Review on the Economics of Climate Change" for the British government in 2006, said: "This report shows very clearly the gross inconsistency between current valuations of fossil fuel assets and the path governments have committed to take in order to manage the huge risks of climate change.…Smart investors can already see that most fossil fuel reserves are essentially unburnable."
Hold on, your lordship. Investors keep pushing up the values of oil companies. Are they stupidly unaware of the risks? In fact, they could be acting rationally, because they see governments working in their favour. Many countries are trying to junk or get around costly and problematic limits on carbon emissions, even as CO2 levels rise. Canada pulled out of the Kyoto Protocol in 2011. The European carbon-trading market has all but collapsed. Politicians are rolling back subsidies for renewable energy.
But the risk profile may be changing already. In May, China proposed banning imports of low-quality coal with a high sulphur and ash content and relatively low caloric value. If that happens, the 55 million tonnes the country imported last year would have to find a new market. If there are no new buyers, the coal could become stranded and therefore unburnable. Could oil that takes an enormous amount of energy to produce, like the goop in Canada's oil sands, be next?
The more serious threat to oil or coal investors is an environmental Pearl Harbor—a global warming catastrophe so damaging that carbon output would have to be slashed in a hurry. It's impossible to predict what that crisis might be, but a drought that triggers mass famine and migration, or suddenly rising ocean levels, would have to make the short list.
In 2000, BP, the British oil giant, adopted the slogan "Beyond Petroleum," envisioning a future where scads of clean energy would sit comfortably in its diversified energy portfolio. That vision is quietly dying as BP sells its wind energy business. Too bad. If Lord Stern is right and the carbon axe falls, BP might have been one of Big Oil's survivors.
Eric Reguly