Executive Summary
Misha Malyshev (CEO/CIO) and Eric Munsing (PM – ESG) make the case for “green commodities” as an attractive, emerging, and now investable asset class. With markets for renewable energy and carbon credits growing, investors now have more sustainable options when it comes to their commodities exposure.
Introduction
Roughly two decades ago, institutional investors began to embrace commodity futures as a valuable component of their portfolios. Long-only commodities exposure can provide equity-like returns with little correlation to traditional holdings and a positive beta to inflation. As financial markets have weathered wars, financial crises, and the results of accommodative interest rate policy, many of the world’s largest investors continue to maintain a portfolio allocation to a long basket of commodities (often indexed to the GSCI or BCOM) – a choice that has paid off more recently as inflationary pressure again dominates the conversation. Somewhat paradoxically, despite growing investor scrutiny around commodity-heavy industries in the equity and debt markets, the futures tracking the underlying raw materials (and hence the components of commodity index books at large allocators) have largely been excluded from the ever intensifying ESG conversation occurring across the investment universe.
It comes as no surprise that the components of a traditional commodity index of liquid futures would fail any reasonable ESG screen, as they range from “dirty” petroleum to child-labor driven cocoa. But because their percentage in the institutional portfolio is so small (relative to the easy targets – stocks and bonds), these assets have largely escaped the ESG dragnet. As investorscontinue to take ESG concerns more and more seriously, however, commodities will surely come under scrutiny.
Until very recently, it was easy to argue that any viable alternatives to traditional liquid commodities futures (e.g. emissions contracts, carbon credits, and biofuels) were simply too small – both in terms of liquidity and open interest – to support investment at meaningful scale. Without question, the development of commodities futures follows the demand for such products in “real life” – futures markets, after all, are a risk transfer mechanism for the real economy. And while demand for “dirty” commodities goes back decades (if not centuries), demand is rising for environmental commodities such as biofuels and emissions propelled by government mandates. These products constitute part of the growing green commodities market. Investors now have a choice when
it comes to commodity exposure – evolve with a more carbon-neutral future or hope their dirty allocation escapes ESG scrutiny (an unlikely prospect).