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August 8, 2017

Divestment Could Cost SFERS $201 Billion; Staff Recommends Rejecting Proposal

The San Francisco Employees’ Retirement System (SFERS) is set to vote on a divestment proposal during its upcoming Wednesday meeting – a proposal that research has shown could cost the fund $201 billion over 50 years.

Ultimately, the Retirement Board will make the final decision about whether or not to divest from the Carbon 200 within 180 days, as requested by the petitioner. But with just hours to go before a decision, staff and financial experts are calling for SFERS to say no to this costly, empty gesture.

In a recent memo to the SFERS board released just days ahead of the vote, SFERS staff, as well as SFERS’ independent investment consultant NEPC, conclude that divesting would harm the fund and are calling for SFERS to reject the motion to divest.  Not surprising, given the hefty price tag divestment imposes.

So how much would divestment actually cost? Earlier this year, Prof. Daniel Fischel of the University of Chicago Law School analyzed the fund to answer that very question.  Using all available data on its current holdings, Fischel and his team calculated SFERS stands to lose up to $201 billion over 50 years and millions of dollars annually if it were to fully divest.  The losses are due in large part to reduced diversification benefits which the energy sector usually provides.  The SFERS retirement staff came to a similar conclusion about the price tag on their own volition:

“…divestment from Carbon Underground 200 fossil fuel companies will materially reduce the potential risk-adjusted return from the SFERS public markets portfolio.  Further, Retirement staff believes that attempting complete divestment from these holdings within a 180-day period would exacerbate the potential losses associated with divestment.”  (emphasis added)

SFERS estimates that the fund holds $473 million in investments of the Carbon 200 — $416 million of which is contained in separately managed equity accounts.  Given the high percentage of SFERS’ fossil fuel investments in indirect holdings, divestment would also impose expansive new transaction fees, management fees and compliance costs.  These mounting costs are in addition to the losses associated with higher risk.  In fact, Prof. Hendrik Bessembinder of Arizona State University found that these fees alone could cost university endowments as much as 12 percent of their total value over a 20 year timeframe.

Accordingly, the Retirement staff at SFERS characterized fossil fuel divestment as “by far the largest in scope of any previous divestment actions taken by the Retirement board.”  For comparison, divestment from tobacco companies only impacted about $25 million in investments.

Meanwhile, we know that divestment – while expensive and difficult to carry out– ultimately has no impact on the environment.  SFERS agreed with that assessment, recognizing divestment for what it is—an empty gesture:

SFERS’ divestment from fossil fuel holdings will not reduce carbon emissions – it simply changes ownership of these securities.  With divestment, SFERS will forfeit its standing as a shareholder to engage these fossil fuel companies to transition their business plans to a low carbon economy in line with the Paris Agreement.” (Emphasis added)

But that’s not all. In the above mentioned memo, the SFERS staff agreed with the conclusions drawn by its independent investment consultant —which reads like a laundry list.  Reasons for rejecting divestment include:

  • Divestment reduces expected risk-adjusted performance by decreasing portfolio diversification;
  • Divestment reduces expected performance in high inflation periods;
  • Divestment implies that SFERS is better positioned to assess the impact of the Stranded Assets thesis on the value of Carbon Tracker 200 companies than collective market perspective as reflected in prevailing prices;
  • Divestment reduces the opportunity set for our active managers to earn excess returns;
  • Divestment incurs additional transaction costs that would be borne by the Retirement System, without prospect for offsetting incremental performance during the next investment cycle; and
  • Divestment has not been adopted broadly by US public pension systems for many of the same reasons detailed above.

Like many of its peers, the staff at SFERS is instead recommending what it calls “positive investment actions,” like engaging with companies and investing other funds in renewable energy.  In fact, as a rationale for recommending not to divest from fossil fuels, the staff noted that “not a single public plan has actually divested; no investment consultant to a U.S. public pension plan has recommended divestment.”

Indeed, as Divestment Facts has recently noted, Seattle’s City Pension and Vermont’s State Pension have both rejected divestment over the past year, joining many high-profile voices in the West that have also spoken out against divestment for the sake of pensioners.   Ultimately, the SFERS board should follow suit, heed the recommendations from its staff and consultants and reject divestment.  The data show that there is nothing to gain from the action, but billions to lose. While divestment does not provide any environmental benefit, it could put the safety of retirement payments for beneficiaries at risk.