To Divest, or Not To Divest? That Is the Question

Executive summary:

  • We believe that avoiding whole sectors or business models introduces portfolio risk and should be done only with careful consideration and a strategic, holistic plan.
  • We believe that active ownership—whether through engagement or proxy voting—is typically a better approach to influencing corporate behavior.
  • When engagement falls short, we believe a clear and robust escalation strategy is vital to addressing investor concerns.

The debate

When you have a stock that does not align with your values or investment beliefs, divestment seems to be a straightforward decision that follows common sense. However, it can be argued that this approach only makes sense on paper and that a systemic divestment approach could have a potential negative impact on your portfolio and your good intentions. Let’s explore why.

The concerns

One of the main arguments against divestment is that exiting controversial stocks simply makes them somebody else’s problem. In other words, selling your shares in a company will have no impact on reducing environmental or societal damage. James Alexander, Chief Executive of the UK Sustainable Investment and Finance Association (UKSIF) summarized divesting as: “You’re just throwing trash across the fence.”

Once you make a decision to sell your stake, you lose your rights and voice as a shareholder. Furthermore, unless you are a large or vocal shareholder, your sale is likely to go unnoticed. Another key point to consider is that divestment may come at a cost, meaning lost returns. Companies that are under pressure due to controversial activity can adopt strategies to mitigate or adapt, recovering their value. When shareholders divest from contentious companies, they lose the potential investment benefit. Avoiding whole sectors or business models introduces portfolio risk and should be done only with careful consideration and a strategic, holistic plan.

The alternative

Active ownership offers an alternate course of action. Through stewardship activities, shareholders can leverage their power to influence corporate behavior. This can be done through engagement and proxy voting. Over the last decade, engagement has become a common practice among institutional investors and involves undertaking a series of meaningful communications with corporate leaders to understand and question current practices and encourage positive change. Proxy voting is also seen as a powerful stewardship tool, whereby shareholders have the opportunity to express their approval/disapproval of certain practices, and it is available to all shareholders, small and large alike.

Divestment can be perceived as a rather aggressive and simplistic approach to addressing shareholder concerns, and it is often applied without meaningful consideration of the differences among firms within the same sector. For example, a common target for divestment is companies involved in energy production. The energy transition is a complex issue that is difficult to adequately address through black-and-white levers like divestment. Let’s take the common exclusion of thermal coal to dig deeper: Production of power from coal, which is the highest emitting feedstock in terms of emissions per unit of heat, is not a simple dichotomy as one may expect. Decommissioning existing coal infrastructure in developing countries can jeopardize access to electricity for populations that have only just been connected to the grid. So, there are social costs to consider. Companies involved in coal power production today are also in many cases the same utilities supplying renewable power. Their power mix takes time to transition, and excluding companies involved in one type of generation without consideration of their total power mix inevitably leads to reducing exposure to companies who will play a key role in powering the economy. This requires careful calibration of exclusion criteria and a willingness to engage in the nuance of complex topics.