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Does divesting shares for ethical or religious reasons produce real change?

When companies need retail customers, publicity from such divestment can achieve change. However generally divesting shares does not change corporate behaviour.

Posted 30 March 2020

I devoted my March column in the magazine Islamic Finance News to briefly explaining why it does not. You can read my article below.

As my column is always limited to a maximum of 600 words, I have added some supplemental comments after the published article.

Making moral and religious investment decisions is right, but does not change the world

I have long been a stock market investor. I have never thought of myself as an “ethical investor”, but quite some time ago I realised that I had never bought shares in a tobacco company. Subconsciously, I had avoided investing in companies which make profits by selling a product that ruins people’s health and shortens their lives.

More intentionally, I have never bought shares in casinos or companies whose main business is producing and selling alcoholic drinks, because of my Muslim religious beliefs. If I would never want to own 100% of a brewery, why would I buy a fraction of a brewery?

At the same time, I oppose bans. The experience of prohibition (of alcohol) in the USA, or the more recent failure of the so-called “war on drugs” demonstrate how harmful such bans can be. There is also a straightforward religious freedom question. If you believe that drinking alcohol is religiously acceptable, or have no religious beliefs at all, what right do I have to prohibit you from drinking alcohol?

An increasingly live political issue today concerns fossil fuel companies, especially oil companies. Students at major universities which have large endowments, and members of churches (such as the Church of England) which also have large endowments, are pressing the trustees of such investment funds to divest of their shares in oil companies.

There are two distinct questions:

  1. Is divestment the correct investment decision? If so, divestment is obviously highly desirable.
  2. If divestment is not warranted on pure investment grounds, will divesting help to change the world, for example by reducing greenhouse gas emissions.

The first question is a difficult one.

For example, I own shares in the oil company BP plc. As countries reduce their use of fossil fuels, there is a risk that BP plc may end up owning large amounts of underground oil which it is never able to extract because there is no market for it; so-called “stranded assets.”

As an investor, I need to weigh this risk against the current high profitability of the business, which results in significant cash flows to investors. I have not reached a conclusion but at present have not divested.

However, the second question has a clear answer.

If I sell my BP plc shares, someone else will obviously buy them. That is how stock markets operate. My selling has no impact on BP’s oil extraction operations. Even if there is divestment by larger shareholders than me (my holding is relatively tiny), at most this will cause some downward pressure on the share price.

Even if it causes the share price to be permanently lower, and therefore the dividend yield to be permanently higher, at most this causes an increase in BP’s cost of equity capital.

However, like most major oil companies, BP does not need any additional equity from new investors, so the theoretical cost of equity is irrelevant to it. Indeed, major oil companies pay big dividends and often have additional cash flow which they use to buy back existing issued shares. They simply do not need to raise any additional equity.

Accordingly, I believe that this divestment campaign represents misdirected effort, because it will not reduce climate change.

The same arguments apply, with appropriate adaptations, to Shariah compliant screening of stock market investments. Screening enables investors to invest in accordance with their religious beliefs, but that is all it does. To combat the harm from alcohol, for example, requires other policies.

Supplemental comments

Such divestment campaigns do achieve one thing. That is to increase publicity about the issue concerned, whether that is climate change in the case of oil companies, or deaths from smoking in the case of tobacco companies.

Where the company relies upon retail customers, such pressure is particularly effective. Pressure on a clothing retailer, and the risk of lost sales, can lead to it requiring its foreign suppliers to raise wages. However in the case of businesses such as oil companies, selling a fungible product to large commercial customers, retail customer attitudes are much less important.

The ethical and religious reasons for divestment should not be ignored, since they matter to the individual shareholder. That is why I do not buy certain categories of shares.

However ethical investors should not deceive themselves to believing that divestment will result in change in circumstances when it will not.


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