The Greening of Wall Street

Tackling the carbon crisis amid the credit crisis.
Economist StaffMarch 17, 2008

When better to further the cause of financial greenery than St Patrick’s Day? On March 17th the first carbon-linked derivatives contracts will begin trading on the Green Exchange, a joint venture between the New York Mercantile Exchange, Evolution Markets, a broker, Morgan Stanley, Merrill Lynch and others. America already has a small emissions-trading market in the Chicago Climate Exchange, run by one of the founding fathers of financial derivatives, Richard Sandor. Nevertheless, the NYMEX venture is seen as America’s boldest step yet towards the carbon-trading big league.

Thanks to its participation in the Kyoto protocol on climate change, Europe dwarfs America in carbon trading. The bulk of the €40 billion ($62 billion) of credits traded last year—up 80% on 2006—changed hands on European markets. But with the science of climate change no longer widely disputed and all three remaining presidential candidates in favour of bringing a similar cap-and-trade system to America, Wall Street is taking the environment a lot more seriously. The potential rewards are huge. New Energy Finance, a research firm, thinks the American market for carbon emissions could reach $1 trillion by 2020 if the front-runner among the several climate-change bills wins approval in Congress. Add in derivatives and it could be many times bigger, points out Blythe Masters of JPMorgan Chase.

Though America pioneered a cap-and-trade system in two acid-rain gasses in the 1990s, European financial institutions are still some way ahead on greenery. A recent report from Ceres, a coalition of investors and environmental groups, put HSBC and ABN AMRO at the top of the pile. But the Americans are catching up. Citigroup has pledged $50 billion to green initiatives over ten years, including $31 billion for clean technologies. Bank of America (BofA) has made a $20 billion commitment. Alone among big banks, it has also said it will put a price on carbon dioxide (of between $20 and $40 per ton) when scrutinising loan requests from industry. Citi, JPMorgan Chase and Morgan Stanley recently unveiled a set of “carbon principles” that will tighten financing terms for smoke-belching power plants.

A number of Wall Street banks are also offering green-tinged merger advice. Goldman points to its role in last year’s takeover of TXU by a private-equity consortium. The buyers won plaudits for crafting a deal that allowed the utility to scale back its building programme for coal plants. Mark Tercek, Goldman’s green guru, argues that the key for advisers faced with heavy polluters is “not to disengage, but to make bad situations better.”

Banks also see plenty of consumer opportunities in global warming. BofA, for instance, offers green credit cards (where purchases earn carbon offsets) and mortgages ($1,000 cashback for energy-efficient homes). It even offers $3,000 to employees who buy a hybrid car. It sees great potential in solar-panel leasing. Green mutual and exchange-traded funds are booming, says Deutsche Bank’s Mark Fulton. He has counted some 250.

Wealthy investors are piling in too. One bank says it has fielded a dozen enquiries recently from individuals each looking to invest between $50m and $100m. One attraction is that carbon is uncorrelated with other markets—though poor regulation can knock prices for six, as it did in Europe in 2006. Hedge funds like it because it is an immature market, and thus offers arbitrage opportunities. Peter Fusaro of Global Change Associates, a consultancy, knows of 75 environmental hedge funds, up from a couple three years ago.

Not everyone is convinced. Steve Milloy of the Free Enterprise Action Fund, a mutual fund run by climate-change sceptics, claims the banks’ environmental initiatives are “at best greenwashing, and at worst value-destroying”. Its shareholder-resolution targets include Citi and Lehman Brothers (whose green initiatives are run by Theodore Roosevelt’s great-grandson). Jim Rogers, the boss of Duke Energy, a big power company, says the banks are being disingenuous: they may cut funding for a power-plant project, but they will not tighten loan terms for its parents.

The question now is whether the management distractions and financial demands of the credit crunch dull Wall Street’s enthusiasm for greenery. After all, something similar happened in the 1990-91 crash, after years of pre-Kyoto excitement. Michael Klein, co-head of Citi’s markets and banking group, insists not: Citi continues to beef up in the area, despite its own troubles. Others also seem determined. Giddy oil prices, meanwhile, will only increase interest in alternative energy. There is strong social pressure not to sink back into old habits. This time the revolution looks to be for real.