NZ Super Fund omits bond holdings from carbon footprint

Sovereign wealth fund considers bond holdings to have no assigned carbon footprint and tells RI that climate goals would not have been possible without shedding fossil fuels.

New Zealand’s sovereign wealth fund NZ Super Fund has excluded fixed income investments from its carbon footprinting exercise, stating that it considers such holdings “to have no carbon footprint (and no revenue) assigned”. 

“This is based on the market capitalisation approach as set out in TCFD guidance, where emissions are allocated based on equity ownership,” the NZ$65.4 billion ($39 billion; €37 billion) fund wrote in its 2023 carbon footprint report published on Tuesday.

In this approach, bonds are not allocated fossil fuel reserves, emissions and revenue as there is no equity ownership.” 

Several market commentators expressed surprise at the omission. 

A banker with knowledge of the carbon accounting methodologies developed by global body PCAF told Responsible Investor that the decision is “likely to be a pretty significant omission of impact”. They pointed out that PCAF covers bonds, including sovereigns. 

Josephine Richardson, head of research at climate-focused think tank the Anthropocene Fixed Income Institute (AFII), said TCFD’s guidance makes it clear that when calculating a footprint of non-equity investments such as debt, “emissions can be allocated across the capital structure”. 

“It doesn’t seem reasonable that any investment in a non-zero emissions producing issuer should have zero emissions,” she added.   

Asked about the omission, a spokesperson for NZ Super Fund said that, as an “equity-dominant fund”, its focus has been on reducing the carbon footprint of that part of the portfolio.  

According to the fund’s climate change report, also published on Tuesday, debt securities make up 24 percent of its portfolio.  

RI was told that the fund regularly reviews its targets and the methods used to calculate the carbon footprint. The next review is due to take place next year. “That will include an assessment of the PCAF methodologies and other ways to calculate the carbon footprint of our fixed income holdings,” the spokesperson said.  

In its climate report, NZ Super Fund acknowledged that its carbon footprinting methodology “is not perfect yet”. 

“Our aim is to produce a carbon footprint covering the whole portfolio. In calculating the carbon footprint, however, we do not currently consider bonds, positions that are market-neutral over the long term, or investments which have no clear carbon footprint, such as life settlements and natural catastrophe insurance.”  

Climate goals not possible without divestments 

NZ Super Fund also revealed that this year it achieved its 2025 goals of reducing the carbon emissions intensity of its portfolio by 40 percent and potential emissions from fossil fuel reserves owned by the fund by at least 80 percent, compared with its own reference portfolio.  

This was achieved largely through removing holdings “in all listed companies with fossil fuel reserves from the fund’s portfolio”, according to the report. 

As of June 2023, NZ Super Fund’s emissions intensity has reduced 59.7 percent and its emissions from fossil fuel reserves had dropped 98.8 percent compared with the reference portfolio.

When asked if those targets would have been achievable without the divestments, the NZ Super Fund’s spokesperson said: “No.” 

“If we are correct in our belief that markets under-price carbon-related risks, then reducing the fund’s exposure to the most at-risk assets is likely to improve its long-term risk-adjusted returns,” the fund wrote in the climate report.

“However, if markets are ultimately found to be efficiently pricing these risks, then we would have sold some fairly priced assets and swapped them for other fairly priced assets.”

As to whether minimising the potential risks to the portfolio through divestment might also reduce its ability to reduce systemic climate risk through engagement and voting, RI was told that the fund’s preference is “to encourage companies to improve their ESG performance through engagement and voting”.  

“However, where we judge that engagement is unlikely to effect change or would require a disproportionate amount of resources to carry out, we will opt to divest.”