Climate Arbitrage

“A textbook definition (Sharpe and Alexander 1990) defines arbitrage as the simultaneous purchase and sale of the same, or essentially similar, security in two different markets at advantageously different prices.” That’s from a book I’m reading by Andrei Shleifer called INEFFICIENT MARKETS. The idea of arbitrage is that the arbitrageur knows the true value of a security better than some prevailing market does, and can buy it in another market closer to the true value. Since securities tend towards their true values, and those values are or can be arranged to be stable for a short time, this means the arbitrageur can buy the security in the cheap market and then sell it on the expensive one, or short the security on the expensive one and when it declines in price there, cover with the security bought at the same time in the inexpensive market.

Now climate deniers and those who gain from the status quo of subsidies and markets are betting that they can beat down governmental and collective (e.g., tort) challenges to the damages fossil fuels cause by gaming the determinations process, and continuing to do this. They are also hoping to deflect attribution of climate change damages to their products long enough to continue to prosper. In the limit, however, climate will change, damages will be incurred, and fossil fuel profitability and the status quo will cease.

So the investment question is, are there places to invest which take advantage of the inevitable frustration of the status quo by natural forces, given that these are being conveniently arranged by the global propensity to burn fossil fuels? Can people profit from Main Street going under water?

As ghoulish as that sounds, it is possible such tactics may be key to getting companies and governments to take climate change mitigation seriously.

One obvious approach is to short stocks of fossil fuel product and exploration companies. Alas, the full value of the short is likely to take time to develop, and shorts can be expensive to maintain.

Another approach is to take positions in electric utilities which are heavy on renewables sources, shorting those heavy on fossil fuel sources. Again, the long term short might be expensive to maintain.

Possibly the most sensible approach for a homeowner is to convert their home energy plant — heat and A/C and electricity — to an entirely locally controlled and carbon-free source, and then watch their fist of living plunge relative to their fossil fuel intensive neighbors as climate plays out. As long as they are not situated in climate risk zones, like coasts, their house prices should increase as well.

I’ll continue to think about this and post what I come up with.

I should say I am NOT a professional investment counsellor and, so, none of the above should be construed as such professional advice. If you act on it, it is at your own risk.

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