Investors call for more systematic analysis of energy system to understand portfolio risk

Major institutions in Energy Futures dialogue project

A group of major institutional investors have called for a more holistic and systematic analysis of the global energy system to help them get a grip on the different sources of risk in their investments.

It’s one of the findings of a new report – Systems not Siloes: Investor Perspectives on the Energy System – of the Energy Futures dialogues project which included UK fund managers Alliance Trust, Aviva and USS Investment Management, the Netherlands’ APG, Bank of America Merrill Lynch, HSBC, Robeco and Sarasin.

“One clear conclusion was that investors – and other stakeholders – need to engage in a much more systematic analysis of the energy system in order to understand different sources of risk embedded in their portfolios,” the report says. This would affect both in-house and broker research, the 28-page report adds. It would likely require a shift from a traditional asset-driven approach to one that looks across sources of risk.

The new approach would also require investee companies to be more transparent about their price assumptions, scenario findings and long- term investment strategies. The investors would also have to enhance their own understanding of how public policy is made.

Another finding is that investors should place a premium on analysis that tries to assess the energy impact of supposedly uncorrelated asset classes. It’s argued that conventional sector/industry classifications don’t “capture the extent of the risks and opportunities of climate change”.

Once these risks are clearer, they can be incorporated into the construction of portfolios in a way that diversifies investors’ risk exposure.

It’s also argued that fiduciary duty over the long term requires investors to invest in climate change mitigation. The report makes six recommendations (see below).

Dirk Hoozemans, Senior Energy Analyst at Robeco Asset Management, said the project “underlined theimportance of taking a system-wide perspective on value” while Nick Robins, Head of Climate Change Centre of Excellence at HSBC saw a “powerful incentive” for investors to exercise ‘capital stewardship’ to ensure that high carbon assets don’t get stranded in the energy transition.

And Erik Jan Stork, Senior Sustainability Specialist at APG, said both investors and companies would have to develop new approaches to assessing the risks of long-term energy and climate challenges if they wish to allocate capital wisely.
Meanwhile, the Institutional Investors Group on Climate Change (IIGCC), which represents 80 European investors with €7.5trn in assets, has welcomed a new paper released by the 13-member European Union Ministerial Green Growth Group called Going for Green. The IIGCC said it should help “drive progress towards the ambitious actions investors want to see from the EU’s 2030 climate and energy policies”.
Philippe Zaouati, Deputy CEO at Natixis Asset Management, responding to “Going for Green”, said: “Every new regulation concerning investment should incorporate stringent provisions favouring low carbon and taking into account environmental and social impact, rather than business as usual.”
The publication brings together recent expert evidence and analysis from international sources into a single document.

Energy Futures’ recommendations:

1. Bridge internal “siloes” across geographies, asset classes and investment styles to understand risks in ‘uncorrelated’ asset classes.
2. Expand risk horizons to acknowledge investable timeframes may prevent understanding of long-term risk.
3. Build price and demand scenarios.
4. Commission more climate-related research.
5. Require greater transparency from companies.
6. Improve understanding of public policy and regulation.