After Trump, Guess We Won’t Always Have Paris After All

Photo by Tomas Sereda/iStockPhoto.

Thursday afternoon, as most folks anticipated, US President Donald Trump marched into the White House Rose Garden and announced he'd cancelled the US's participation in the Paris Agreement on climate change, triggering a media firestorm of epic proportions. Many in the press claim the move was an abdication of leadership or an irresponsible move making the US one of only three nations who aren't included, joining Nicaragua and Syria (which are not exactly models of sound governance or pillars of stability). Still others noted many CEOs had lobbied to keep the US in the deal. Politicians around the world also piled on, for good measure. For his part, Trump argues the deal hampers economic growth and opportunity, particularly in the fossil fuels industries, and is unfair to America. This all had some wondering: How would stocks react? They yawned. To us, this is the appropriate market reaction. Whatever your view of Trump's decision, we believe whether the US is in or out of the Paris deal is neither bullish nor bearish for stocks.

Here is that market yawn, depicted in a minute-by-minute chart of the S&P 500.

Exhibit 1: S&P 500 Intraday on June 1, 2017

Source: FactSet, as of 6/2/2017. S&P 500 price index.

The Paris Agreement, signed April 22, 2016, is an agreement signed by 196 nations that seeks to lower greenhouse gas emissions by 2025, an effort to curb climate change. It came into effect November 4, 2016, when signatories accounting for 55% of emissions approved it. From a US-law point of view, it is not a treaty, as Congress never approved it-that is why Trump can unilaterally remove the US from the pledge. Under the deal, each country targets an emission reduction that aims to foster "sustainable" economic development. These targets can be reviewed at any time and changed, and are set for regular review every five years. There is no enforcement mechanism. In the US's case, the Obama administration pledged to reduce greenhouse gas emissions by 26% - 28% from 2005 levels by 2025.

This deal has everything markets care very little about: Sociological aims; long-term forecasts; structural shifts with oodles of time to adapt; hugely public proclamations that were prefaced by months of discussion. If there were meaningful market implications from this deal, stocks would have reacted to this news eons ago.

But there is another reason why whether the US is in the Paris deal or not isn't hugely important for markets: The market is basically accomplishing the deal's goal either way. Opponents to the deal, like Trump, argue it would raise electricity costs and cause a sharp dislocation to fossil fuel-related industries. Yet by the time the deal was signed by former Secretary of State John Kerry, emissions were already about 10% below 2005 levels in 2015. (Exhibit 2) The largest industry contributor to emissions, electric utilities, saw emissions fall even more-20.5%-over that span.

Exhibit 2: US Total & Electric Utility Greenhouse Gas Emissions

Source: US Environmental Protection Agency, as of 6/2/2017. 2005 - 2015 (latest data available)

Now, it's likely in part true government policy led to some of that decline-and, relatedly, a small portion is likely due to renewable energy. But it is not the sole reason by any stretch. A far bigger factor? Different fossil fuels! Specifically, heavy-emitting coal-fired power plants are being replaced by far cleaner natural gas plants. This isn't connected to government policy or UN-sponsored initiatives. It's the massive boom in gas output spurred by the marriage of hydraulic fracturing, horizontal drilling and shale resources. Exhibit 3 shows this, plotting US electricity production by source fuel. Considering gas gained even more share at coal's expense in 2016, we won't be surprised if data ultimately show emissions falling last year, too.

Exhibit 2: US Electricity Generation by Source

Source: US Energy Information Administration, as of 6/2/2017. 2005 - 2016.

If the market is already cutting emissions at a substantially similar pace to the Paris deal, it's hard for us to see why being a signatory to the deal would be so problematic. And Corporate America seems to agree, as many businesses are already stating exiting the agreement won't change their practices. Same with local governments. Then again, for the same reasons, it's hard to see why folks are putting such huge importance on being party to the deal, either. The market is already accomplishing the general aim. This reveals the Paris deal-and Trump's exit from it-for what it actually is: Symbolism, largely aimed to curry political favor among politicians' bases. Bretton Woods this was not.

Similarly, the notion the US stands shoulder to shoulder with only Nicaragua and Syria is, at this point, symbolic rhetoric. So far, 147 of 196 nations that signed the deal have approved it. The US's leaving adjusts that number down by one, which isn't yet accounted for in the UN's fun tally. That means fully 50 countries haven't enacted the Paris deal, and a deal you sign but don't implement isn't too meaningful in practice. Notable among those who haven't approved it: 9 of 14 OPEC member nations and Russia-big oil nations. But they aren't alone: the Netherlands and Switzerland are two highly developed European nations yet to ratify the Paris deal at the national level. Further, one also wonders whether the UK will sign on, as it previously did so as a member of the EU.

You are free to hold whatever view you like of the US's involvement in the Paris deal or any other international agreement you like. Think the Law of the Seas is problematic?^[i] The Geneva Accord? Your call! Think the Marshall Plan stinks? Think the League of Nations is troublesome? We guess that's ok too, although you're about 70 and 90 years late on those, respectively. But all in all, before presuming a deal like Paris matters for stocks, you must cut through the politicized rhetoric.