Driving GHG emissions reductions through decarbonization of portfolios
As society’s concern over the systemic risks associated with climate change grows, a once-niche ESG and impact investing product offering is providing investors with a route to a greener portfolio. To achieve this, both asset managers and corporations alike are trying to calculate carbon footprints, emissions avoided, systemic climate risks and various metrics related to climate change. It is time to double down on decarbonizing portfolios and active stewardship is instrumental.
How are asset managers decarbonizing portfolios?
A diversified panel of 5 renowned leaders who are making large strides in the transition to green assets were brought together for a panel on this topic at the Sustainable Finance Conference on May 25th, 2022 and discuss best practices in the industry: Milla Craig, President and CEO of Millani, Alexander Bernhardt, Global Head of Sustainable Research at BNP Paribas Asset Management, Kenny Tang, Chief Compliance Officer and ESG Leader at Trans-Canada Capital, Sophie Cousineau, Vice-President ESG and corporate affairs at WSP, and Christian Felx, Head of Responsible Investment at Desjardins Global Asset Management
Desjardins announced concrete measures to fight against climate change: Each business sector has a role to play and can develop strategies to decarbonize portfolios. Some strategies listed by Christian Felx include divestment, becoming signatories of the Power Past Coal Alliance, footprint measurement, targets relative to traditional benchmarks, signatories of the Net Zero Management Initiative, setting Paris agreement aligned targets, investing in green assets, green bonds, renewable energy for infrastructure investments, encourage certifying buildings, shareholder engagement and transparency, disclosure, reporting are all parts of the decarbonization process.
Alexandre Bernhardt of BNP Paribas Asset Management focuses on companies that aim to reach the Sustainable Development Goals (SDG) through thematic investment products which seek to invest in targeted impact themes. Their team uses an SDG model to score companies on their effectiveness to create long term positive impact, a similar approach shared by Clear Skies with the goal of decarbonizing portfolios and be aligned with the Paris agreement.
On the other hand, how are companies decarbonizing their process and adjusting to investor expectations?
Milla Craig of Millani works with both investors and corporations on improving ESG strategies. The mandates that her team does often follow a figure 8 shape; building bridges between investors and investees. Investors need information to report back to asset owners or regulators, and companies need to respond to surveys day in and day out. Disclosure and questionnaires can take away the time needed to lower risks and create value. Standardization can help bridge that gap and the newly established International Sustainability Standards Board (ISSB) North American hub in Montreal may have solutions to provide industry participants with necessary resources.
Doubling down on decarbonization:
If one message from this 45-minute discussion from the Sustainable Finance Summit can be extracted, then perhaps it is that productive decarbonization comes down to two main levers:
- Capital allocation
Best practices for allocating capital towards green assets are important, but it would not be sustainable without stewardship. Take divestment as an example. If all investors left carbon intensive companies tomorrow, those exits could cause significant losses for high-carbon industry sectors and those that rely on them. Given the size of these industries, these cumulative losses could create crippling effects on society (read more on the risks here: Addressing Climate as a Systemic Risk: A Call to Action for Financial Regulators (harvard.edu).
All five speakers touched upon active engagement at various stages of the investment process. Milla describes how her recent visit to Calgary demonstrated to her that some investors are actively requesting limiting share buy backs because they want companies to reinvest in hydrogen and clean tech innovations. “A voice of investors weighs very heavily, and that voice is actually the thing that can change the mind of the CEO or CFO.”
Engagement is extremely important in decarbonizing and greening portfolios. A study by the University of Cambridge identified that there is a strong correlation between shareholder value and engagement (study based on 2150 engagements over a period of 10 years): In fact, excess returns of 7.1% were associated to strong engagement strategies.
Engagement activities can also be activated before adding a company to a portfolio to add more value to the risk assessment stage of a buy-side analyst. Milla provided another clear example: Imagine a utility company which acquires dirty (brown field) assets, an initial ESG disclosure rating will rank this company with an unattractive score to investors and may get quickly screened out, however if an analyst digs deeper and engages with the company, they can uncover that the company’s intentions (demonstrated through timelines and targets) are to decommission the assets and replace them with renewable energy. “If you are just looking at the carbon portfolio then this company had a huge footprint” she emphasized, “and if you do not do your research, you will miss big players in transition.”
Opportunities for decarbonization of portfolios are manifold. If we are seeking long-term rewards for all stakeholders, then responsible actions are key. Collective engagement is a key driver because a message is always stronger when it is done collectively.