It is no longer disputed that the world’s surface temperature has risen steadily over the industrial age. In this context, as part of their duty of trust, institutional investors must assess whether climate change poses a threat to their ability to meet the commitments they have made to their clients, their policyholders or their contributors. While few can justify sitting on their hands, many are relatively powerless when it comes to acting. The understanding of carbon risk by these investors’ governing bodies varies and, for some, broad awareness on climate implications, is limited. This lack of knowledge, combined with the difficulty of making sense of often contradictory and sometimes obscure arguments, can understandably lead to reticence or symbolic actions. To overcome this, it must be acknowledged that a large number of investors need simple solutions and that their governing bodies need to be able to ‘buy’ with confidence. With this in mind, here are three examples of initiatives that can genuinely help a large number of investors take the first step more quickly.
Climate supportive investment initiatives
Financing the transition towards a lower-carbon economy offers a vast array of investment opportunities, and investors know it. If they are reluctant to invest in the shares of companies that develop products or services that will benefit from this transition, this is mainly because they have low risk tolerance, but it is also because the prudential framework remains weighted against risk taking of any kind. The EuropeanInvestment Bank (EIB), BNP Paribas and Vigeo have pooled their expertise to offer an innovative investment solution. Through the EIB’s Climate Awareness Bond, the Tera Neva initiative makes it possible to participate in the financing of European projects that support the climate. In practical terms, issue proceeds will be invested in companies that have adopted a bona fide approach to the fight against climate change. As for investors, they will not only enjoy a capital guarantee but also share in the performance of the funded companies as repayments are pegged to Vigeo’s Ethical Europe Climate Care index. ERAFP will invest €35M alongside other institutional investors.
Creation of low carbon indices
Aside from funds that finance those players that are clearly at the forefront of the movement for transition to a less carbon-dependent economy, taking climate change into consideration for all institutional investors’ portfolios must also be encouraged. A huge step forward could be taken by developing new indices that include the target of limiting the rise in temperatures between now and 2050 to two degrees.
Whether one is for or against this option, there is no getting away from the fact that most investors measure their investment performance or make their investment decisions on the basis of indices that at present do not really reflect the decarbonisation objective. And yet there is a lot at stake. If in doubt, you need only consider the amount of assets under passive management, where the scale switches from billions to
trillions. The initiatives of the various index providers seeking to offer more than the current ‘low-carbon’ indices should therefore be welcomed. In various ways, these providers are all working on developing indices that if investors asked their asset managers to replicate them would offer a reasonable assurance that they are on track to help limit the rise of surface temperatures between now and 2050 to two degrees.
Decarbonisation of asset portfolios
For the most advanced investors, we must also continue to explore new ways of encouraging ‘decarbonised’ asset management. Two years ago, ERAFP was the first investor to publish the carbon footprint of its equity portfolio. The Scheme is a pension fund, and therefore it has a long-term vision; accordingly, it believes that the transition must be approached proactively. That is why ERAFP has decided to begin a decarbonisation process in collaboration with Amundi, one of its asset managers. This firm’s European equity portfolio now includes an additional filter designed to exclude companies that emit the most greenhouse gases. With the approach of COP21, ERAFP is proposing a new initiative. The Scheme recently appointed amLeague and Cedrus AM to implement a platform allowing asset managers to demonstrate over a significant period their ability to reduce the carbon intensity of an ‘international equity’ portfolio.Collaboration
ERAFP has already contacted a number of French and other European investors who have expressed an interest in this approach. Another aspect is deciding how they will subsequently be able to build into their investments the results generated by the management processes that have proved most successful. Institutional investors need to show a sense of initiative. While their duty of trust requires them to assess the risk that climate change poses to the value of their investments, they need to do more. Specifically, they need to start changing their asset allocation. This is exactly what ERAFP has done. Following a best-in-class approach, the scheme seeks to exclude from its portfolio, in each economic sector, the companies that, because they are the most carbon-intensive, are also the riskiest. At the same time, ERAFP seeks to help boost the transition by investing in solutions that go beyond the process of ongoing improvement. The examples above are part of this permanent innovation policy, which we must all promote if we are to mobilise the funds of major investors. And yes, we are talking about thousands of billions that need to be mobilised, not merely the billions in public funds promised by governments preoccupied with their own budgetary difficulties.