Hugh Wheelan’s Diary: We need to frame the climate risk debate better

I’m in Edinburgh for the UK Pension & Lifetime Savings Association’s annual investment conference. It’s one of the big gatherings of pension funds and asset managers. Anyone doubting that ESG issues have entered mainstream discussion would quickly be disabused by a look at the programme, where almost a quarter of the plenaries and panels have clear responsible investment themes. Delegate response is mixed. Some are much more engaged on ESG issues as part of institutional investment. I sense a renewed purpose in a formerly uninterested strata of pension funds (i.e. not just the large ones) to examine their long-term beneficiary/societal benefit in terms of quality saving and real economic/social value.

On a plenary titled “Forecasting the next big risk”, the audience put climate change last

Others are cynical (a mix of healthy and unhealthy) about whether ESG really means much in reality for the way asset managers are investing (they’re right: for some it does, for others it’s marketing).
On the whole though, it’s hard not to be bullish about a genuine breakthrough. The RI panel is no longer the last, dreary slot at the end of Day Two! ESG issues are investment issues, as we always said they were, and increasingly will be.
The framing of them is crucial though, as the following rather surprising audience poll demonstrates.
On a plenary titled ‘Forecasting the Next Big Risk’, the audience put climate change last, at just 4%, of major macro risks to assets in a list of other issues such as demographics or the end of QE (not really a choice, I know, but hey…).The panellists – from Marks & Spencer, Lloyds and USS – were all surprised. Elizabeth Fernando, Head of Equities at USS, explained why she thought it could be one of the most important macro risks. She noted that in era of increasing ‘polluter charges’, water stress and serious questions about extreme weather and related insurance-premium risk and cost hikes – let alone the issue of climate change itself – investors were not putting these into financial models: “Secretly, I think investors appear to be hoping that governments won’t get their act together on areas like carbon and water pricing or pollution. But the reality is they need to.”
She noted that the impact of physical risks and related financial outcomes was potentially even more important in debt financing over lengthy time horizons, as well as in private equity and private credit allocations, property and infra: “The potential of rising sea levels could lead to significant migration away from coasts, and it doesn’t take much to be sat on a shopping centre or building where the value proposition changes dramatically. This will almost certainly lead to increased volatility and much greater cost in buying and covering related insurance.”
Her argument was clear, cogent, rational and persuasive. By the end of the session, the number of delegates who thought ‘climate change’ was a major macro risk had jumped to 20% – on a par with the other macro risks presented.
As David Adkins, Head of Investment Strategy, Lloyds Banking Group, concluded: “RI either reduces risks or enhances returns, or both. I’m frustrated at the idea that people think this won’t perform.”
I know what he means. Elizabeth Fernando’s intervention makes me realise that we have much more work to do, however, in framing the investment discussion in a way that institutional investors clearly recognise an enlightened self-interest for action presented by respected investment peers.