Does mining have a place in an ESG portfolio?

Are mining stocks too contentious in an ethical portfolio? Hannah Smith explains both sides of the debate. 

Last month, the chief executive officer of mining giant Rio Tinto (LSE:RIO) stepped down, along with two other senior executives at the firm. Their heads rolled because of shareholder and public outrage over Rio Tinto’s destruction of an ancient Aboriginal site, below which was valuable iron ore. 

The company blew up the 46,000-year-old caves in Western Australia, having long known of their huge cultural and archaeological importance. The local community had been battling the miner for seven years in a bid to protect the site. In response to the outcry that followed its destruction, in a tone-deaf move, the board simply reduced the executives’ short-term bonuses.

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With such disregard for corporate social responsibility, investors who care about the principles of ESG (environmental, social, and governance) would probably give Rio Tinto a wide berth. There are already good reasons to avoid the mining sector as a whole, given the potential for environmental destruction and the effects of climate change from fossil fuels. But is there an argument that, rather than screen out the whole sector, it is better to invest in these companies in order to drive positive change? 

“As an industry with a long track record of human and labour rights violations and one that inflicts obvious environmental damage, it is tempting to think it has no place in a responsible investment portfolio,” says James Hay, investment associate at MainStreet Partners, an independent advisory on ESG investing. But, he argues, we still need miners and we can’t afford not to engage. “The much-needed transition towards clean energy depends on the mining industry. For this reason, engagement with mining companies is not only desirable but necessary.”

Incapable of change?

Miners will provide the raw materials needed to power future green technology – for example, the lithium and cobalt used in batteries for electric cars. Some mines where these resources are found have been subject to child labour allegations, such as in the Democratic Republic of Congo. But having responsible investors closely scrutinising these practices could stamp them out, argues Eoin Murray, head of investment at Federated Hermes. “We recognise that the world still needs more mining in order to build a more sustainable economy, such as cobalt and lithium for car batteries, iron ore for wind turbines, aluminium for light weighting efficient transportation. So, the answer is sustainable mining of the right materials - not mining more thermal coal, for example - and ensuring sustainable mining practices,” he says.

Investors need to consider whether a company is open to doing things differently. If it is, engagement and stewardship can give it the push it needs to move in a better direction. “Our central premise is that if you believe a company is capable of change through engagement and has a role to play in the drive to Paris-alignment or net zero carbon, then it is OK to hold them as long as you do engage and vote, that is, behave as a good steward. Otherwise, don’t hold a company that is incapable of change,” Murray adds.   

The need for pragmatism

Tim Cockerill, investment director at Rowan Dartington, argues that asset managers can use their influence for real impact when they engage with management and boards as shareholders. 

“Responsible investors need to be pragmatic because business is complex and so are the challenges that we face. This is where investment groups that are serious about sustainability get involved in engaging with companies they own and bring pressure on them to improve what they do.”

Whether responsible investors can stomach engaging with miners will depend on what type of investor they are, suggests Hay. He splits them into two groups: one is the impact or sustainability-focused investors who shy away from mining because of the environmental impact, poor labour conditions and governance concerns. The other is the best-in-class ESG, or engagement-themed investors, who see the potential to bring about positive change by pushing boards to address these issues.

Agitating for gradual change is one thing, but what Rio Tinto did surely points to major failings at the level of company culture. The destruction at the Juukan Gorge “cannot be reversed, and I imagine for some investors is unforgiveable”, says Cockerill.

“Why did they do it when they knew about the huge sensitivity of these sites, what does it say about the attitude of management and their view on society, equality, history and race? While there will have been company procedures to follow, the company has fallen far short of what is expected in today’s world of responsible investing, and frankly, it seems, common sense.”

He asks whether investors should, in this case, penalise the whole company or just those responsible for making the decisions. In this case, shareholder pressure led to the resignation of the chief executive officer, the head of iron ore, and the head of corporate affairs. “So here is a case of shareholders bringing change, which is a hugely important factor in being a responsible investor. Unfortunately, the damage cannot be undone, but shareholders can do their utmost to ensure this type of thing never happens again,” says Cockerill. 

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Carrot or stick

Hay adds: “Neither camp is right or wrong, but rather focused on different ideals. The ‘avoid camp’ is more concerned with how intrinsically good their investments are. The ‘engage camp’ is more concerned with what good their investments can achieve.

“It will come down to an investor’s goals and the type of responsible investor they are. But it is certainly not a black and white issue and investing in mining stocks does not preclude you from being a responsible investor.”

Ultimately, investors need to choose between a carrot and a stick approach: engage and apply pressure to improve business practices, or hit businesses where it hurts by denying them the capital they need.

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