Markets Are Moving Away From Fossil Fuels

If picking stocks were easy, everyone would be rich. Most people investing for retirement put their money in mutual funds, which diversifies their money across hundreds of stocks. We can sit back and let the fund try to replicate market trends and chase bigger returns.

What you probably don't know is the markets have been steadily divesting you from fossil fuels as the world grows increasingly electrified and digitized.

Most Popular Investment Strategy Is to Trust the Market

Mutual funds and index funds are popular investment strategies because your eggs aren't all in one basket. If you're enrolled in retirement plan, such as a 401(k) or IRA, then you are likely investing in various funds. Retirement plans generally include a wide enough range of mutual funds, from very conservative to very aggressive, to satisfy most customers. Index funds are like mutual funds, only more focused. They track a very specific index.

The other way to invest, of course, is to buy stock in a company. Making money by picking individual stocks is extremely difficult.¹ Even professionals have a hard time doing it. You might find one or two solid companies, but that's not enough. Investing most or all of your money in a company or two is bad strategy (all your eggs in one basket). You should diversify, but diversification means picking many stocks. Even the best stock pickers have trouble outperforming index funds, which mirror the ups and downs of the whole market and have proven over time to outperform almost all professional stock pickers.

Market Wisdom Is Divesting You From Fossil Fuels

Increasingly, markets are divesting you from fossil fuels. Managers of funds are shedding carbon-producing companies with the goal of matching the S&P 500 index.

The S&P 500, one of the most commonly followed indices, measures the stock performance of 500 large companies. One of the index's 11 sectors is called Energy, but it's made up entirely of gas and oil, not any renewables. Energy was the S&P's second-largest category by weight in 2008 (information technology was first). But 12 years later, this gas-and-oil category was the smallest sector, having dropped from 16% of the index to just under 2%.

Writing about this seismic change, Nathanial Bullard of Bloomberg concluded, "In terms of growth, there’s no apparent penalty for removing fossil fuel companies from indexed investing. The S&P 500 Fossil Fuel Free Total Return index has outperformed the S&P 500 Total Return index since the former’s inception in 2012."

Fossil-Free Funds

So, what would the S&P look like if it shed all fossil fuels? There's an ETF for that. An exchange-traded fund is a group or securities that trade just like a stock and that seek to mirror the performance of a benchmark index like the S&P or the Dow Jones Industrial Average.

When you cull the gas and oil companies from the S&P, you get the S&P 500 Fossil Fuel Free Index. The ETF that seeks to replicate this index trades under the symbol SPYX. As of September 30, 2020, the top 10 holdings in this fund² are as follows.

Smart Investing Could Still Include Some Fossil Fuel Companies

With the gas and oil sector making up less than 2% of the S&P, no more divesting is necessary, suggests Bullard. "Now it’s clear the focus should be less on divestment from the fossil fuel sector and more on reallocation to companies that are planning to create value from the low-carbon transition."

Some of the gas and oil companies lumped into the S&P's Energy sector could be included in this strategy.

BP (formerly British Petroleum) made headlines recently with its pledge to cut gas and oil production by 40% by 2030. "We aim to be a very different kind of energy company by 2030 as we scale up investment in low-carbon, focus our oil and gas production, and make headway on reducing emissions," reads the company's homepage.

Funds that look toward a low-carbon future could sensibly hold BP stock.
On the other hand, don't expect them to hold shares of ExxonMobil. Recently, internal documents revealed that the oil giant plans to increase carbon emissions 17% over the next five years. "The plan puts Exxon at odds with many of its peers," noted USA Today. It's like Exxon is on another planet. This planet really doesn't need 17% more carbon pollution, thanks.