Maximise ASX share gains or invest ethically? The SUPER dilemma

Renewable energy companies can’t currently match the outsized gains posted by their fossil fuel peers.

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Key points

  • APRA is monitoring super funds investing in underperforming ASX shares 
  • Energy companies supplying fossil fuels have led the charge higher this year 
  • APRA's benchmarking may be discouraging super funds from ethical investing 

Most everyone investing in ASX shares is looking for companies that will go up in value over time.

And perhaps pay some healthy dividends along the way.

But that’s not the sole concern for many investors, who also seek out ASX shares that tick the environmental, social, and governance (ESG) boxes.

Socially conscious investors, for example, want to ensure a company’s workers are treated and paid fairly all along the supply chains.

Importantly, they also want to invest in companies with strong environmental awareness, generally avoiding ASX shares involved in the fossil fuel sector.

But 2022 has thrown up a fresh dilemma for ESG investors. One that’s also ensnared Australia’s super funds.

Maximise ASX share gains or invest ethically?

Energy costs, as you’ll know if you’ve been to the servo lately, have rocketed in 2022.

Crude oil, gas and coal prices were already trending higher heading into the new year, as the global reopening saw demand take-off faster than new supply could keep up.

Then oil-rich Russia’s invasion of Ukraine and the resulting sanctions against Russia put a rocket under fossil fuel prices.

Crude oil hit 13-year highs last month and coal traded at all-time highs. Today fossil fuel costs remain at multi-year highs.

And that’s seen ASX shares digging coal from the ground offer the best returns on the All Ordinaries Index (ASX: XAO) this year.

The super dilemma

Which brings us to the Your Future, Your Super performance benchmarking initiated by the Australian Prudential Regulation Authority (APRA) in July 2021. The regime applies to 80 MySuper products.

The system scores the super funds’ performance against a set of benchmarks. Underperforming funds are publicly named and told to up their game. Those who fail to match or beat the benchmark for 2 consecutive years can be banned from taking on new funds.

And it’s this benchmarking, said Jens Peers, CEO of ethical investment fund manager Mirova US, that may discourage super funds from investing in ASX shares involved in renewable energy, as these may be longer-term plays not yet returning big gains.

According to Peers (quoted by The Australian):

The Your Future, Your Super regulation has a short-term focus on single risk management… The world is going to a low-carbon economy. There is no doubt in my mind that fossil fuels will suffer and find it very difficult to benefit financially. Renewables will do a lot better, but there will be times — such as this year — when fossil fuel companies outperform them.

Peers said APRA’s benchmarking process encourages super funds looking at ASX shares to “all move in the same direction and take no convictions in their portfolios… If you have this short-term focus on investment returns, super fund trustees and the investment personnel at big super funds may not want to make that commitment.”

“Some of these companies may not be sustainable or environmentally friendly,” he added. “Some people really care how their money is invested and they want to see that it is being done in a way which will create an impact.”

To give you a better idea of the dilemma facing super funds under APRA’s benchmarking microscope, here’s how ASX shares in renewable energy stacked up against their fossil fuel peers in the first quarter of 2022.

And we’ll use the 0.1% gain posted by the All Ords in Q1 as our benchmark.

How ASX shares in renewables compare to their fossil fuel peers

ESG investors, brace yourself.

Throwing our focus on short-term investment returns, the numbers for Q1 aren’t good.

First, we’ll look at best performing ASX shares in the renewable energy sector.

Mercury NZ Ltd (ASX: MCY) generates more than 15% of New Zealand’s electricity and all of that electricity is generated from renewable sources. The company has a market cap of $7.5 billion and pays a 3.2% trailing dividend yield, unfranked.

The Mercury share price lost 2.4% in Q1.

Next up we have ASX renewable energy share Contact Energy Limited (ASX: CEN). The New Zealand-based electricity provider produces some 85% of its electricity from renewable hydro and geothermal stations. The company has a market cap of $5.7 billion and pays an unfranked 4.4% trailing dividend yield.

The Contact Energy share price dipped 1.2% in Q1.

The best performing ASX share in renewable energy was Meridian Energy Ltd (ASX: MEZ). With a market cap of $11.4 billion, Meridian is New Zealand’s largest electricity generator. It generates 90% of its energy from hydro with the rest from wind. The company pays a 3.5% trailing dividend yield, unfranked.

The Meridian Energy share price beat the All Ords benchmark, gaining 3.4% over the first quarter.

As for the fossil fuel stocks?

The super dilemma becomes clear when you look at the comparative performance of ASX shares in the fossil fuel space.

In fact, the top 3 performers on the All Ords in Q1 were all coal stocks.

Coronado Global Resources Inc (ASX: CRN) produces metallurgical coal, which is used in the production of steel. The company has a market cap of $3.8 billion and doesn’t currently pay a dividend.

Coronado shares gained 61% in Q1.

Also rocketing higher and unlikely to make the list of ASX shares receiving the ESG tick of approval was Yancoal Australia Ltd (ASX: YAL). Yancoal is Australia’s largest pure-play coal producer, managing and operating a broad portfolio of coal mines across the country. Yancoal has a market cap of $6.7 billion and pays a 10.4% trailing dividend yield.

The Yancoal share price leapt 71% higher in the March quarter.

Which brings us to the best performing ASX share in Q1, Stanmore Resources Ltd (ASX: SMR). In April 2021, Stanmore Resources was rebranded from its former name, Stanmore Coal, which tells you how the company earns its revenue. Stanmore has a market cap of $1.6 billion and pays a fully franked 4.3% dividend yield.

And the Stanmore Resources share price rocketed 83% in the first quarter.

With APRA running the yardstick over their comparative performance, you can see the ESG dilemma facing fund managers in deciding which ASX shares to add and which to cut from their portfolios.

The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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