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Transition Bonds need to be at the heart of the ‘decade of transition’

AXA Investment Managers’ Yo Takatsuki

Responsible Resolutions: This is the latest article in a series from sustainable finance practitioners about their hopes for the New Year.

Welcome to the 2020s! As we herald a new decade, the challenge facing society has rarely been more clear-cut. In the 1940s, we took on the grand task of defeating fascism. In the 1990s, we constructed a new geopolitical reality after the dissolution of the Soviet Union. I have no doubt that climate change will be a similarly defining theme of the coming ten years.

The 2010s will be remembered as a golden age for responsible finance. The industry’s awareness of the scale of global environmental and social challenges – and its responsibility to help solve them – has moved decisively from the side-lines to centre stage. If the 2010s was a decade of awakening, then the 2020s will be a decade of transition. As investors we have a central role to play, and the moment for talk is over.

Over the past two years, we have conducted extensive research into climate scenario analysis techniques for our investment portfolios. Two of the key variables affecting the future “warming potential” of our investments are time and carbon budget, and our findings are consistent with those of the Intergovernmental Panel on Climate Change (IPCC). Put simply, a lot of carbon emissions need to be reduced very quickly. At the current pace, the IPCC believes that temperature increases will breach the +1.5°C threshold between 2030-2050 unless annual global carbon dioxide (CO₂) emissions decline by 45% by 2030 and reach ‘net zero’ by 2050.

Another of the sobering findings from our research has been that it is not sufficient just to focus on the extremities of investment portfolios. 

"If we are serious in our commitment to help achieve global climate change goals, we need to switch our focus to the middle part of the portfolio – the section which is neither the most nor the least carbon intensive."

We have taken steps to divest from the darkest brown, most carbon-intensive investments. In our climate risks policy, we exclude companies involved in coal and tar sands. At the other end of the spectrum we have allocated increasing levels of investment capital to the deepest green, lowest-carbon investments. We do this across asset classes such as listed equity, corporate bonds, private equity and real estate. For example, we are very active buyers of green bonds and currently hold investments worth around €5.5bn in this rapidly growing sector.

Despite these important steps, the “warming potential” of our investments is still higher than those required to align with the goals of the Paris Agreement. In fact, we have found no major equity or bond benchmark that has a current alignment close to the +1.5°C limit sought by COP21. The warming potential of the main corporate market indices is +3.3°C. 

This analysis shows that if we are serious in our commitment to help achieve global climate change goals, we need to switch our focus to the middle part of the portfolio – the section which is neither the most nor the least carbon intensive. This is the part which represents the real economy, the one that developed after the Second World War and which has brought us prosperity - but also left us with a deep environmental footprint that has now become all too apparent.

Fortunately, there are many ways we can make genuine progress in decarbonizing the world economy. They include challenging carbon-intensive companies in one-to-one engagements and participating in collaborative initiatives such as Climate Action 100+ or the Powering Past Coal Alliance, which seeks to end the use of coal-fired power generation without measures to substantially reduce CO₂ emissions. We use our position in industry groups and trade associations to press for better outcomes in the public policy arena.

Much of the dialogue with companies focuses on how they are considering their climate transition, and pushing them towards a better understanding of global-warming-related risks and opportunities. We want these companies to establish a clear strategic commitment to strengthen environmental practices and to enhance oversight and transparency. A lot of this is now neatly framed under the expectations set in the Task Force for Climate-related Financial Disclosures. 

But there is always more to be done. We wanted to ensure that our engagement work and our broader advocacy on climate change mitigation was reflected in our financing activities. So last June, we published a call-to-action which sought the establishment of a new fixed income asset class called Transition Bonds. 

"A growing critical mass of interest in the topic from around the world."

We believe it is important that companies which are committed to meaningful decarbonisation at the corporate-level and which can adequately evidence progress should be able to secure stable and long-term funding through the Transition Bond market. Our objective was to kick-start a discussion between issuers, investment banks, policy makers and wider stakeholders.

It’s fair to say that we succeeded in that. The response has been really amazing. We have gathered all sorts of views from across the wider industry and this is exactly what we were hoping for. A vibrant debate has taken place which brought us into direct contact with capital market participants and many others. However, as I said earlier, the moment for talk is over. Now, the hard work of taking this to the next stage has to begin.

As part of the ICMA [International Capital Market Association] Green and Social Bond Principles, a dedicated Working Group on the topic of Climate Transition Financing has been established. We are one of the co-chairs. Around 50 institutions have already asked to participate, signalling a growing critical mass of interest in the topic from around the world.

In 2020, our Working Group will consider how all bond issuers – including those from heavy industries, manufacturing and extractives sectors which haven’t come to the green bond market – can be encouraged to take the important step to link financing activities with climate-related public commitments. This is an inclusive effort and all perspectives will be considered. Together, we have a far better chance of developing a well-considered and lasting solution to the defining challenge of our time.

Let’s be clear – there will be no single silver bullet that makes this global warming thing go away. We need to encourage innovation and I, personally, expect to see a lot of novel climate financing ideas in the next few years. We should welcome them. The status quo will not resolve climate change as quickly as we need it too.

Today, we find ourselves at the starting line, and ahead of us lie some truly daunting challenges that will require imagination and pragmatism if they are to be overcome. We are committed to a better tomorrow – and tomorrow starts now. Welcome to a decade of transition.


Yo Takatsuki is Head of ESG Research and Active Ownership at AXA Investment Managers.

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