The Impact Of Coal Divestment On The Russell 3000

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Coal Divestment

Californa Governor Jerry Brown signed into law the Senate Bill 185 last month, which requires the state pension funds—CalPERS and CalSTRS, to divest investments in coal companies that generate at least 50% of revenue from thermal coal.

CalPERS assets under management have a market value of around $293.64 billion as of November 30, 2015, while CalSTRS manages approximately $188 billion in assets as of October 31, 2015, as reported by the pension funds on its websites.

A report from Reuters indicated that CaPERS has investments worth about $100 million to $200 million in 20 to 30 thermal coal mining companies including Peabody Energy and Arch Coal. On the other hand, another state pension giant, CalSTRS has approximately $40 million investments in thermal coal mining companies.

International coal divestment movement

According to FactSet, Governor Brown’s signing of the coal divestment bill could indicate a trend where pension funds seek to align better their investment policies with the overall social movement towards reducing carbon emissions. And it is not only pension funds – as we noted earlier this week, some big US and European banks have cut off funding for coal related businesses.



However, California’s action was one of the largest movements in the international coal divestment movement. The Parliament of Norway endorsed coal divestment in June. The Parliament recently voted for the reduction of coal investments by its $900 billion sovereign wealth fund (SWF), the world’s largest SWF in terms of assets. Stanford University and the University of Maine also decided to divest investments from coal companies. The timing could not be worse as the coal industry is hit by prices, and regulation, and coal companies teeter on bankruptcy.

However, how will this impact your portfolio?

According to FactSet, investors need to be aware of companies that have exposure to coal businesses, but the task of identifying them is a challenge. Investors can use the conventional industry classification systems to identify these companies, but it is limited in depth and scope.

FactSet explained that investors will not be able to identify companies generating less than 50% of revenues from coal using the conventional industry classification system. Additionally, companies are not classified into more granular levels such as thermal or metallurgical coal.

The FactSet Revere Industry and Sector Classifications can address both limitations by using highly specific industry categories and granularity to map companies on a multi-dimensional level, including their primary and ancillary businesses.

Excluding coal companies enhances performance of Russell 3000

FactSet Revere senior product manager Jeremy Zhou applied several coal exclusionary filters to backtest the performance impact on the Russell 3000 over the past five years.

The chart below showed the results based on returns from October 10, 2010, to October 15, 2015) for four exclusionary portfolios. The returns were based on total returns including dividends reinvested.

Returns of Various Coal Divestment Portfolios Coal Divestment

The results excluded the following factors in the four exclusionary portfolios:

  • All coal-exposed companies in the Russell 3000 (“R3K excluding Coal”) regardless of the percentage of revenues they received from coal
  • Coal-focused companies that received 50% or more of their revenues from coal
  • All thermal coal-exposed companies
  • Only “focus” coal companies that received 50% or more of their revenues from thermal coal

Based on FactSet’s back-tested results, excluding all coal-exposed companies in the Russel 3000 for the past five years produced the best cumulative return of 83.07%.

The portfolio that excluded coal companies that received 50% or more of revenues from thermal coal produced the lowest return. FactSet also found that all four exclusionary portfolios outperformed the Russel 3000 (equal weighted and rebalanced annually) in the past five years.

“Excluding coal companies in the Russell 3000 for the past five years appeared to be performance enhancing, even when a more restrictive thermal coal exclusionary filter was applied,” according to FactSet.

Of course, some would argue that this is hindsight bias since coal has performed so poor over the past five years – and that the backtest results are obvious. Nonetheless, at least if the consensus is correct (and it often is not), coal is going to be in trouble for the foreseeable future.

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