Can natural gas investment ever be considered ESG?

The industry continues to look for ways to green controversial exposures

Jamie Gordon

a factory with smokestacks

The boundaries of where environmental, social and governance (ESG) investing begins and ends have been tested once again by changes to the European Union’s Sustainable Finance Taxonomy – but what opportunities exist to green one’s natural gas exposure?

Austria and Luxembourg have already launched a joint lawsuit against the new Climate Delegated Act – which deems nuclear and energy natural gas to be sustainable activities – with Germany and others considering throwing their weight behind the opposition.

Despite this, the European Commission have so far maintained their pragmatic view that any transition to greener energy sources will not be possible by relying on renewable sources alone. This is why the new Delegated Act has been brought in to establish a baseline for ‘transition energies’, or those which should be relied upon in the medium-term and phased out after coal and oil.

Should the recent changes remain in place, investors might expect to see nuclear and gas names become a more regular fixture in their ESG products benchmarked against EU metrics.

However, gas is far more of an offender than nuclear on the emissions side of the equation. In fact, according to a 2013 paper by Colombia University, emissions produced by natural gas cause “about 40 times more deaths per unit of electric energy produced” than nuclear. Whether deemed satisfactory or not, efforts are being made to offer investors ways of gaining ‘greener’ natural gas exposure.

Green bonds 

One place investors will find more ESG-optimised natural gas exposure is in green bond ETFs. While best-in-class ESG ETFs may have some exposure to fossil fuel companies involved in natural gas, green bond ETFs are meant to finance projects related to diminishing an issuer’s negative climate impact. Therefore, in theory, companies borrowing money using green bonds are committing to expanding their expenditure in and range of “green” projects.

However, green debt issued by high polluters has attracted a number of critics. Among them, non-profit Reclaim Finance argued a lack of supervision means green bonds can end up financing non-green projects such as $1bn in ‘green financing’ towards coal-related projects in China in 2019.

The EU is currently working on its “Green Bond Standard” to improve the quality and credibility of green bonds issued, however, this will not arrive until at least later this year and compliance will remain voluntary, Reclaim Finance warned.

Despite this, green bonds remain a growing asset class within ETFs, and options such as the $57m Lyxor Corporate Green Bond UCITS ETF (PLAN) offer its top allocations to utilities companies such as Engie and Iberdrola, both of which are involved in natural gas.

Carbon offsetting

Looking ahead, another route is to offset pollution created by industries such as natural gas extraction and usage, by spending on projects that either create avoided emissions (such as renewable power, which generate energy with fewer emissions in the process) or absorb emissions (such as planting trees).

By calculating the CO2 emissions produced per million dollars of investment in an index – which might include natural gas involvement – issuers can create ETFs that pay to offset these emissions. At present, the ETFs on the market with an offset mechanism avoid involvement in natural gas and focus on traditionally lower-carbon sectors, though this is subject to change as carbon offsets launch on more core exposures and ESG products begin to align with the EU’s taxonomy changes.

Much like green bonds, the ESG credentials of carbon offsetting receive mixed reviews from investors. According to Refinitiv’s 2021 carbon market survey, more than half of respondents believe the option to offset carbon reduces firms’ incentive to cut their emissions. However, 57% either somewhat or strongly disagreed that carbon neutrality achieved via voluntary offsets could be considered “pure greenwashing” so its use in countering the impact of natural gas may not be entirely negative.

Responsibly sourced gas  

Finally, another area to watch is the rise of ‘responsibly sourced gas’ (RSG), which refers to gas produced with fewer methane emissions associated with the production process – among other considerations.

While only coming to the fore in recent years, RSG has already courted criticism from some who argue it – like offsets – act as a way of absolving companies of wrongdoing and delaying their transition to lower-carbon energy sources such as solar and wind power.

For now, though, investor pressure on utilities to green their energy mix could make RSG an attractive prospect. For instance, companies such as Duke Energy, which features in the PLAN ETF, are calling for zero-methane RSG to become a key part of their energy supply, Bloomberg reported. Also worth noting is utilities companies and fossil fuel producers alike will be coining RSG on the assumption they can charge the end consumer more for ‘greener’ gas – though the thought of more costly gas will not be welcome at present.

The main challenge, as with all green initiatives, will be metrics for measurement and enforcement. Many will never consider natural gas an ESG-friendly investment, but for those seeking a less harmful natural gas exposure, the reliability of green bonds offsets and RSG will depend on organisations such as the EU creating more rigid frameworks of standards. Whether it is worth spending time creating ways to regulate greener forms of ‘brown’ energy, or focusing on transitioning away from these sources altogether, will be a key debate of the next decade.

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