The Exchanges

Q Well, why don't we dive in there? What were the key lessons in risk management that when you somehow made that shift, you thought applied well to climate risk?

A The first thing, you know, when you're thinking about risk and return on Wall Street, you're always balancing those in building portfolios of stocks or bonds or Credit loans, you know, whatever it is. We think about, are we getting paid appropriately for the risks that we're taking? And that, that's one of the key lessons at Goldman. We made a lot of money from taking risk. And when they asked me to be head of risk management, it wasn't because Goldman Sachs wanted to reduce its risk. They wanted to make more money from the risks that they were taking. And if we were taking risks that we weren't getting paid for, we should identify those and hedge them, get rid of them. So similarly, or, you know, at the heart of climate is the fact that we're not pricing the risk appropriately. So that's one lesson. Now, another lesson that's very clear is that you have to think about worst case scenarios. Or in the financial community now, we don't really talk about worst case so much because that's, in many contexts, that's not defined. I remember early on, Goldman asked me to think about how much we could lose In our swap portfolio. Well, there's no upper bound. There's really no number. I can't say we're not going to lose more than X because, you know, then you can. So we, in the financial markets, we usually talk about extreme but plausible scenarios. And that's a good way of thinking abo…

AI assessment note: “at the heart of climate is the fact that we're not pricing the risk”

Q And you mentioned at the onset that you're involved in some of the organizations trying to influence policy. What's that work been?

A I've been doing a lot of different things with a lot of organizations. First of all, I sit on the board of the Climate Leadership Council, which is the sponsor of the Baker Schultz carbon dividend approach. That's probably the leading US effort to price emissions right now. It's a bipartisan effort. It's got support from basically the entire corporate sector, all virtually all the economists in this country. A lot of the, uh, environmental communities. I like to tell people we've got support from everyone from ExxonMobil to the World Wildlife Fund and everyone in between, so that's pretty broad support. Now, I'm also, uh, the chair of the, uh, CFTC, that's the Commodity Futures Trading Commission, climate related market risk subcommittee, which is a group of 35 leaders of the financial markets, including banks, insurance companies, The, uh, NGOs, academics, and other interested parties, and we're all working right now to create a report for the CFPC that's gonna provide, hopefully, a kind of roadmap for the financial community on how to deal with climate, and of course, one of our recommendations is that, uh, we create appropriate incentives to reduce emissions. Everyone agrees on that. I don't know how it can't be done. It's gotta be done. It's gotta be done soon, and everyone seems to agree on that.

AI assessment note: “First of all, I sit on the board of the Climate Leadership Council”

Q Do you think about investing in this way as a way to drive efficiency for the betterment of the environment and future generations, or is this just, hey, this is a great commercial way for us to implement on a thesis?

A Uh, it's more the latter. I mean, I think that the key here is to create those appropriate incentives, and that's what I'm focused on. But as an investor, I happen to be watching this space, especially since the World Wallet Fund put on its swap, you know, six and a half years ago. And I've been saying to myself, you know, this is an opportunity. I'll tell you the truth. It was about, you know, a year after we put that swap on at WWF, and my wife said to me, Bob, why aren't we doing You know, it was up 40% already, and I was like, you know, you got a point there. So we did it personally, and I think my partners at Kepos were watching this as well and came to the same conclusion. Why aren't we doing that for our clients? It wasn't the most natural thing For a quant investment firm to do. Our main product is you might say a liquidity provision, and we tend to be in and out of positions in a matter of days or weeks. So we're, we're not high frequency, but we're relatively short term investors. And so to take a position that, you know, there's going to be a rapid transition to a low carbon economy, that's a little longer term than we usually focus.

AI assessment note: “it's more the latter. I mean, I think that the key here”

Q What was that initial call like when you thought you were on your career path, and now you're heading to Wall Street all of a sudden?

A Actually, it was kind of funny now that you asked, because the first call, I had no clue. I didn't know what a headhunter was, and it turned out it was a headhunter who was looking for a chief economist, and as she said, you know, at a major Wall Street firm, and I was a young Fed economist. I wasn't qualified to be like the economist at a major firm, but Someone thought I was, and I said, well, you know, it would take six figures. You know, I was not making six figures at the time, but what I didn't realize is that was a, you know, multiple seven figure job, so I clearly indicated that I had no idea what, you know, this was about. I never heard back from that headhunter, but then later I got another call, and that time it was more of a quant job, and I ended up going to Goldman Sachs and started in fixed income research, building models there, and then early on, Goldman asked me to get involved in risk management, which was kind of a new area, and they asked me to be head of risk management, which was a partner level position, and I did that for four years, and then they asked me to move to asset management, so I did that, and ended up heading the quant group in asset management, and I was very Pleased to do that for about 10 years. I thought I was going to retire. Some of the folks that I was working with decided to open up their own hedge fund. So instead of retiring, I join…

AI assessment note: “the first call, I had no clue. I didn't know what a headhunter was”

Q So I know you've been involved with the World Wildlife Fund, and I'm curious, with an organization like that, that has some assets to manage, how do they think about it today?

A So I'm glad you asked that question. I, I've been chairing the, uh, investment committee at WWF for a while. Actually, I no longer chair it, but I was chairing it back in 2014. And we, we had a discussion about how should we be positioning our portfolio? So there were a number of trustees who thought we should divest. And we talked about divestment and we looked through our portfolio and said, well, what would we divest of? What are our stranded assets? And they were, they were tiny. As you might imagine, we didn't have a lot of coal and oil. We had a little bit here and there through external managers. And in private equity or in, uh, hedge funds. And our advisors told us it's going to be very expensive for you to get rid of every last piece of it. You've got less than one percent, but it's all over the place in tiny little pieces and your managers, you're part of funds that will make decisions. So you're going to have to get out of those funds. You may have to sell this private equity. You're going to take a 20% haircut. It's less than one percent. Just don't worry about it. And we said, no, You know, we're the World Wildlife Fund. We want our portfolio to reflect our mission. We don't want to be supporting These activities help us out here. They came up with a very innovative solution, which was what we call the stranded asset total return swap. We basically took all those a…

AI assessment note: “They came up with a very innovative solution, which was what we call the stranded asset total return swap.”

Q All right, Bob, let's turn to some closing questions. What's your favorite hobby or activity outside of work and family?

A Well, you know, I'm, I'm a cyclist. I have been for a long time. I, I, uh, continue to do that even now. I also like to play golf. I haven't played a lot of golf, and I don't imagine I will be anytime soon. The other thing I like to do, which is kind of fun, is in the exercise realm, Pilates. My wife got me interested in that years ago, and now I live on the East Coast, but I happen to be stuck here in California. So it's a little difficult to, uh, go to the gym that I used to go to, but it turns out you can do Pilates remotely, as I've discovered, uh, using an iPad. So I continue to enjoy the Pilates even while I'm out here.

AI assessment note: “I'm a cyclist. I have been for a long time.”

Q What are the paths that you could say clients of Kepos or people that you've seen in the markets are taking to try to address this when they're not pricing this in the right way?

A Well, you know, Kepos like other businesses is in the business of making money. So What we are looking at at Capos and what a lot of investors are looking at is, okay, there is going to be, inevitably, there's going to be a policy response. I can't tell you when or how. Is it going to be a carbon tax? Is it going to be cap and trade? Is it going to be a green taxonomy? What is it going to be? But at the end of the day, we know that humanity has to quickly reduce its emissions. And so there's going to be a rapid transition To a low carbon economy. What we're all facing in the future is transition risk as we implement those policies to move to a low carbon economy and the physical risks from climate change. And so as an investor, what I want to do is I want to tilt my portfolio in a direction that it's going to do better in the context of a rapid transition to a low carbon economy and to avoid the perils of the climate change in terms of the physical impacts. And so that there's a lot of analysis that has to go into that, but you're looking for what are going to be the stranded assets. I don't want those in my portfolio. So as an example, I don't want to own coal mines. We're not going to need coal mines. There's plenty of, and oil, you know, there's plenty of oil out there. What we don't have is a place to put the emissions. And so I have to think about, okay, which companies an…

AI assessment note: “I want to tilt my portfolio in a direction that it's going to do better”

Q And when you want to get more sophisticated about it, I know you're kind of in the process of thinking about how to implement some of these strategies to more granular level. So why don't you walk through kind of how you've thought about the research behind that and, and what you're looking to do with it?

A Sure. Well, we started, you know, years ago, actually at WWF, looking at research that was put out by third parties, for instance, a group in UK called Carbon Tracker. That has done a lot of good work saying, okay, which of the companies are most exposed to this and which not? And now we're working with other data providers and looking at different sectors. So as I mentioned, you look at oil and gas one way, you look at utilities another way, materials, transportation, et cetera. As a quant, we often talk about factors. So emissions, for instance, can be one factor. Within the utility sector, for instance, you know, there are utilities that have More carbon dioxide emissions per unit of energy than others, and that's one factor, but then you have other factors. For instance, can a utility pass on the cost of reducing those emissions to its rate base or not? Some have more freedom to do that than others, so some are more exposed, and you look at those different factors, they're going to be different in different industries, and as I say, it's a little bit like fundamental analysis, and the scenario you're looking at is, How will this company do in a rapid transition scenario relative to that company?

AI assessment note: “we're working with other data providers and looking at different sectors.”

Q How do you try to maximize the impact that you can have personally across your activities?

A My personal background is I had a risk management at Goldman Sachs. So that's where I have expertise. This is a risk management problem. And so I just try and speak out wherever I can in places like this and say, look, This is not that difficult. There's a risk management problem. We're not pricing the risk. That's the fundamental problem. We've got to do it. Everyone who looks into this problem seriously reaches the same conclusion. There's not a lot of disagreement. Now, there are a lot of people who say we're never going to get there, and so let's do this or let's do that. Let's plant trees. Let's stop driving. I'm not against those kinds of things, but it's just they don't operate at the same scale as providing The collective incentives that allow everyone to move in the right direction. And by the way, you don't even have to try. On the one hand, if I try to reduce my carbon footprint today, when it's not built into prices, then I have to figure out how big is the carbon footprint of a hamburger versus chicken nuggets, you know, when I make a decision. And it's just unrealistic. I don't have that information. Should I make a phone call or should I drive to this meeting or should I? Too many decisions. You can't do it. I don't even have the information. You build it into prices. Now I don't even worry about it. I just worry about how do I allocate my resources and I see the…

AI assessment note: “I just try and speak out wherever I can in places like this”

Q And so you work through these assumptions. You've got a range of possible outcomes, which we know is wide. What is the data showing you today?

A Well, there's a couple of things it's showing. Number one, we should do what I call slam on the brakes. Okay. The usual approach, or let's say the usual types of modeling, which don't take risk into account, assume that you should start at a relatively low price for emissions today, or, you know, whenever you started, but it should have started years ago. But then that price rises over time as you get closer to when these damages are coming. And they assume that you know when those damages are coming. Exactly. It's not a distribution of outcomes. So you don't worry a lot about getting prepared for the worst case, because you assume you know what the cases are. Anyway, so one of the things is that rather than having a slow increase in price, which I kind of sometimes call an ease on the break scenario, because your one operator here is the price on emissions, and so it's, that's your control. How hard do you press on it? The reality is today the incentives globally Are very strong to support the production and consumption of fossil fuels. So kind of like, I'd say that's like having your foot on the gas pedal. Now there are incentives to go the other way. And when you add them all up, the bottom line is something close to zero today. So you've got incentives going against you. You've got incentives going in the right direction. The net incentive globally is close to zero, and the…

AI assessment note: “Well, there's a couple of things it's showing. Number one, we should do what I call slam on the brakes.”

Q As you've gotten more and more passionate about this, I know that you're thinking about or on the cusp of investing some capital alongside some of these beliefs. What is that going to look like?

A We don't have a product right now, but we're working on developing a product that will, as I say, do well in the context of a rapid transition to a low carbon economy. And so we're working with, actually, we're getting pretty close to launching it and we're working with some seed investors and trying to figure out, you know, exactly what should that look like? We tend to manage products that are market neutral, and we think that that makes sense in this context as well, and so it's going to be long and short. It'll be across multiple sectors, and we're doing all the research that I was talking about before to try and figure out how to do it. Yeah, there's, there's some interesting issues. If we are going to try to benefit from The valuations in fossil fuels. Do we want to be exposed to the fluctuations in oil prices? You know, there's going to be a lot of fluctuation in oil, uh, that's going to create volatility in the short run. We could hedge that, or we could just leave it as an exposure. So, you know, those are the kinds of issues that we're looking at.

AI assessment note: “We tend to manage products that are market neutral... it's going to be long and short.”

Q When you take this from the policy level to the financial markets, where have you seen investors taking action in and around your thought processes?

A Okay, well, investors, and let's just talk about financial markets because I've been in them for decades. They are incredibly efficient at making money for investors and for asset owners, for entrepreneurs. People are motivated to make money, and so they allocate capital in the direction of the incentives that they face, and to this day, we have the wrong incentives. Okay, so capital naturally flows in the wrong direction. And people in the financial markets have tried their hardest to come up with ways to redirect capital in the right way. Things like green bonds, ok? And in Europe now, they're focusing on a green taxonomy. Well, okay, but guess what? The incentives go the wrong way, and so it's kind of like trying to push water uphill. It doesn't work very well. You get the incentives right, get out of the way, and watch the capital flow. There are different ways to set up incentives. So in Europe, for instance, they have this taxonomy. They define certain types of investments as green, others as brown, and then they create, for instance, tax incentives, other types of incentives. For investors to invest in green investments. Well, guess what you get from that? You get a lot of green investments, but you don't necessarily get a lot of emissions reduction.

AI assessment note: “Things like green bonds, ok? And in Europe now, they're focusing on a green taxonomy.”

Q That's the key question, and if you have a consortium that can range from the World Wildlife Fund to Exxon, what is the obstacle in getting something done?

A Well, it's Republicans in the Senate, let's be perfectly honest. I think that's changing quickly, let's just put it there. One of the senators that I often talk to, Sheldon Whitehouse, says what we need is a jailbreak. Because these Republicans in the Senate, they all know better, by the way. They all know it's real. They admit it now. They all, they've changed their talking points. Some people haven't recognized that, but they say, yeah, it's real. Yeah, it's, it's caused by human behavior, and what we need is innovation. Well, okay, but, you know, if you want to get innovation, you need incentives. I always pound on incentives, you know, because what are incentives? They're anything that changes behavior. Well, we've got to change behavior. We've got to change incentives. And you know, they all get it. So it's a question of when is the opportunity politically for them to come out and say, yeah, yeah, we've got to do this. And I hope it happens soon. It's just so sad.

AI assessment note: “Well, it's Republicans in the Senate, let's be perfectly honest.”

Q As you start to think about the market pricing emissions more efficiently, what are the different ways you could participate in that in the markets?

A So there's a lot of different ways, and it's not so obvious. As you suggested, the first easiest thing to talk about are things like coal and oil, and if we're moving rapidly to a low-carbon economy, that's not going to be good for those industries in general. And then within other industries, you know, transportation, we talked about, you're looking for the companies that are going to be positively impacted by those, but it's not so obvious. If it was obvious, everyone would already be doing it. And I guess some people think, and so far have been correct that we're not going to slam on the brakes. We're just going to keep moving in the wrong direction until it's too late. It's a pretty, uh, depressing thought, but I think we're going to get it right. I hope. I think that once we do create those incentives, I'm an economist. I know how powerful incentives are. You're going to have every entrepreneur, every business, every investor, all moving in the same direction, responding to those incentives. And I think we will quickly be able to reduce emissions. Now, I think we're also going to have to do geoengineering to reduce the existing CO two in the atmosphere. So one way to think about How bad this problem is, is to recognize we're probably going to have to pull most of the CO₂ that we're putting into the atmosphere here today back out. That's an expensive proposition. That's a h…

AI assessment note: “things like coal and oil, and if we're moving rapidly to a low-carbon economy”