Why a Goldman ESG stock picker is so high on a coal company

At Goldman Sachs, there's an ESG filter that tells investors to buy coal giant Glencore and avoid big tech staples Microsoft and Alphabet.

The filter is designed to pick stocks based on how much attention companies pay to recycling, waste management and the reuse of materials and products. The better they do, the higher they score on a metric called circularity. The approach, the latest example of the huge portfolio variations that investors face depending on the ESG screen they use, has shown it can beat the wider market over time, according to Goldman.

Glencore made the cut — despite being the world's biggest shipper of coal, the world's dirtiest fossil fuel — because it's also one of the world's largest recyclers, said Evan Tylenda, the EMEA head of Goldman Sustain, which is the Wall Street bank's investment research strategy aimed at integrating ESG to beat benchmarks. Since 2021 and through the end of July, Tylenda says leaders in Goldman's circularity portfolio have outperformed the MSCI ACWI Index by as much as 16 percentage points.

A lot of companies "are taking on new initiatives that haven't maybe been quite as appreciated by the overall sustainable investment universe," he said in an interview. Investors should see Goldman's list as a starting point for selecting investments, Tylenda said.

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Circularity, or the circular economy, is an area that's starting to make inroads in investing theory. The basic principle is that there's a limited supply of natural resources on the planet, and a limited capacity to absorb waste. Companies that don't recycle or reuse the materials they need to operate — or help customers do so — will be left with a business model that's unsustainable, ultimately making them a bad investment.

There's evidence that the finance industry is already asking companies to document their credentials around waste management.

"Though still relatively nascent, banks, including Wells Fargo and Deutsche Bank, are starting to pressure companies on effective waste management and biodiversity," Eric Kane and Melanie Rua, analysts at Bloomberg Intelligence, wrote in a recent note.

For now, only a few dozen funds offer investors a circularity strategy, compared with the more than 1,100 geared toward addressing climate, according to data compiled by Morningstar Direct. The largest to date is the BlackRock Circular Economy Fund (Ticker: BGBCEAU@LX), with more than $1 billion of assets.

As an investing theme, the circular economy "hasn't attracted the same levels of attention" as climate related issues, said Kenneth Lamont, senior researcher at Morningstar. "This has meant circular economy funds have not suffered the same dramatic boom and bust as some alternative energy funds over the last few years."

Controversy

Viewed through the lens of waste management, Glencore — though blacklisted by investors including the sovereign wealth fund of Norway for its coal business — suddenly starts to be a better ESG bet, Goldman's Tylenda said.

A spokesperson for Glencore declined to comment, referring instead to the company's previous disclosures. It recycles electronics, batteries and other products containing copper, lithium, cobalt and precious metals in dedicated facilities in Europe and North and South America. That said, the company hasn't yet provided separate results for the business, which is dwarfed by its vast coal and mining operations.

Environmentalists have long criticized what they characterize as Glencore's foot-dragging on climate policies. An April report by the Australian Centre for Corporate Responsibility found that Glencore's 2024-2026 Climate Action Transition Plan actually "moves the company further from aligning to a net zero emissions pathway."

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Legal & General Investment Management said in June its ESG funds will divest from Glencore, citing the company's coal production.

Its large operations also mean that funds purporting to be sustainable and sold in Europe can't invest in Glencore, under the EU's new ESG fund naming rules.

An August analysis by the Anthropocene Fixed Income Institute stated that "if any of these funds didn't already exclude Glencore, they would now be required to do so, unless they changed their names."

Tylenda says that Glencore's focus on recycling addresses the "looming critical material crunch" that's ahead as the green transition requires more battery power. "Deployment of low-carbon technologies requires a lot more critical materials that unfortunately are just not seeing sufficient supply come online, so an emphasis on reducing demand for virgin materials and recycling will be critical," he said.

"There's been a very big emphasis on net zero emissions outcomes and biodiversity loss," Tylenda said. "We argue the circular economy is critical to solving for both of those."

For a second year, analysts at Goldman have combed through the data of roughly 7,000 companies to identify promising assets for circularity-related strategies. Currently, the investment universe includes 875 companies. Glencore isn't the only surprise. Other stocks that do well in Goldman's list include Vale SA, the Brazilian mining company that agreed to pay $7 billion to the state of Minas Gerais after a mining waste dam at its iron-ore mine in the town of Brumadinho collapsed in 2019, killing 270 people.

Big Tech, meanwhile, falls short because there are too many questions around how it handles resource efficiency, Tylenda said.

It's unclear today what the direct contribution and outcome to resource efficiency may emerge from the software and artificial intelligence being developed by the so-called Magnificent 7 companies, he said.

If artificial intelligence eventually proves to be useful in de-materializing the economy, Big Tech could be added to the list of stocks to pick when taking the circular economy into account, Tylenda said.

The European Union adopted a comprehensive plan around circularity four years ago, with a goal to double the use of recycled materials between 2020 and 2030. So far, however, the so-called circular material use rate stands at 11.5%, slightly up from 10.7% in 2010. Given that backdrop, regulators are likely to press companies to do more, according to Goldman.

The circular economy "is quite underappreciated as a current theme," Tylenda said.