Climate Change
Introduction
Climate change is now widely acknowledged as the most significant environmental threat facing the planet. It is predicted to have significant economic impacts – both directly through flooding, drought and other extreme weather events, and indirectly through regulatory measures to limit greenhouse gas emissions and promote low carbon technologies.
Virtually all sectors – from utilities, insurance, tourism, and property, to transport, construction, retail and agriculture – are likely to be affected. The “Stern Review on the Economics of Climate Change”, commissioned by the UK Treasury and published in November 2006, estimates that the cost of not addressing climate change could be between 5% - 20% of gross global product by around 2050.
Given the predicted severity of climate change and the resulting impacts on national economies and companies’ profitability and prospects, Insight believes that companies and investors must actively address climate change, by working together with other actors, to identify and finance the most effective solutions.
We start with the recognition that climate change is a product of market failure. The absence of appropriate incentives leads individuals and companies to ignore the costs associated with greenhouse gas emissions. Hence, a key focus for our engagement activities has been dialogue with public policymakers to encourage them to adopt policies and targets that assign a financial value to greenhouse gas emissions and also to provide a more certain long-term climate policy framework. In addition to public policy work, we:
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Engaging with policymakers
In the absence of appropriate public policy, most companies will perceive that climate change is not relevant to their businesses and so will not respond appropriately to investor engagement. Our public policy work comprises two strands. The first is public policy analysis to understand the barriers to tackling the challenge of climate change. In March 2006, we hosted a workshop at Chatham House involving policymakers, companies and institutional investors to consider how public policy uncertainty affects decision-making in the electricity industry. In our meeting report "Climate Change Policy Uncertainty and the Electricity Industry: Implications and Unintended Consequences", we concluded that policy uncertainty means that electricity companies are delaying investments in new plant, with the consequence that greenhouse gas emissions from electricity generation are likely to remain higher than for longer than would otherwise be the case. The report recommended that policymakers clearly communicate that emissions trading is an integral part of the policy framework for responding to climate change and establish clear national and international greenhouse gas emission targets for 2020. We distributed this report widely – to companies, to UK and European policymakers and to the investment community.
The second strand of our work is collaborative public policy engagement, primarily through the public policy workstream of the Institutional Investors Group on Climate Change, a forum for collaboration between pension funds and other institutional investors on issues related to climate change. Through IIGCC we have made a series of submissions on climate change to encourage UK and EU public policymakers to take the long-term interests of institutional investors into account in their decision-making processes. A particular focus of these submissions has been the importance of government providing long-term policy certainty in relation to climate change. We have also met with relevant government officials (e.g. in Treasury – the officials responsible for the Stern Review team – and Defra) to discuss these issues.
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Engaging with companies
We engage with companies to encourage them to improve their management of climate change risks and opportunities, and to improve corporate climate change disclosure to enable investors to make better-informed investment decisions.
Effective management of climate change risks and opportunities
The most pressing challenge for investors is to ensure that companies reduce their direct and indirect greenhouse gas emissions and integrate climate change into their business strategies. Insight actively engages with companies on both counts. Specifically, we recommend that where companies have significant exposure to climate change related risk, they establish a comprehensive climate change policy, fully inventory their greenhouse gas emissions (both direct and through their product life-cycles) and establish clear targets for emission reduction.
Insight has, for example, engaged: aviation companies in discussions about proposals to regulate their greenhouse gas emissions; water utilities about the impacts of changes in weather patterns, flood risks and the implications for security of water supply; and electricity utilities about the business implications of the European Union’s (EU's) Emissions Trading Scheme.
In 2007, we benchmarked 125 companies - comprising the FTSE 100 (excluding investment trusts) and large cap European stocks – on how they are managing their greenhouse gas emissions (as a subset of their broader approach to managing the risks and opportunities presented by climate change). This research had two objectives: to develop a systematic understanding of the wider implications of climate change for our investments, and to identify companies whose management of the risks and opportunities presented by climate change falls short of good practice. The overall results including a discussion of the implications for current practice in this area are presented in "Taking the Temperature: Assessing the Performance of Large UK and European Companies in Responding to Climate Change". The research identified priority companies for engagement (which we will conduct in 2008): four companies in high-impact sectors who do not seem to have identified climate change as a material risk, and approximately 20 companies with a moderate or significant exposure to climate change risks whose management systems and processes on climate change fall well below what we would consider good practice.
Promoting better corporate reporting and disclosure on climate change
We have found that there are significant gaps and inconsistencies in the data that companies provide, with the consequence that investors cannot properly assess associated investment risks and opportunities. In our 2006 report "The Climate Change Disclosures of European Electricity Utilities", we set out our expectations for disclosure by electricity utilities with regard to climate change. We have subsequently engaged with a number of electricity companies and several have made commitments to restructure their reporting in line with our proposals.
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Investing in low-carbon technologies
Our Evergreen and European Ethical Funds invest a portion of their portfolios in companies that are involved with low-carbon technologies, including renewable energy from wind, solar, geothermal, wave, tidal and/or biomass power, fuel cells and biofuels (biodiesel and bio-ethanol). These products and services help to address global climate change by offering significant carbon dioxide savings.
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Conducting and publishing research
In 2007, we initiated a project, together with three other institutional investors (Henderson Global Investors, RAILPEN Investments, and the Universities Superannuation Scheme (USS)) to identify how companies and their investors are likely to be affected by the physical impacts of climate change. This will include identifying, for a number of sectors, the major direct, physical climate change and weather-related risks faced by companeis in the sector, the potential implications for cash flows and balance sheets, and the disclosures required by investors to enable them to evaluate corporate exposures to climate change risks. In early 2008, we published a report - "Managing the Unavoidable: Understanding the Investment Implications of Adapting to Climate Change" - which sets out the framework and scope of the project, and also sets out our broad expectations of how companies should think about climate change.
A key element of our investment process – across our equities and bonds investments – is thematic research that allows us to analyse whether there are risks in our portfolios that more traditional forms of financial analysis may not identify. We see climate change as critical in this respect. We have analysed the investment implications of government policy measures directed at reducing greenhouse gas emissions and the financial impacts of the physical effects of climate change, including internal research into the relative positioning of European electricity utilities to emissions trading, the financial implications of including aviation in the EU Emissions Trading Scheme, the investment opportunities presented by coal-to-liquids technologies, and the investment opportunities presented by biofuels.
We have published a number of major reports on climate change, focussing on public policy, corporate performance and corporate reporting. On corporate performance and public policy, we published a major report in 2008, "Taking the Temperature: Assessing the Performance of Large UK and European Companies in Responding to Climate Change", which discusses the manner in which companies are managing the risks and opportunities associated with greenhouse gas emissions. The report critically examines the role of carbon neutrality and offsetting as climate change strategies and explicitly considers whether public policy is providing sufficient certainty and incentives for companies to take action to reduce their emissions. The report followed two previous reports we had published on these issues: (a) "Climate Change Policy Uncertainty and the Electricity Industry: Implications and Unintended Consequences", which considered how public policy uncertainty affects decision-making in the electricity industry, and (b) "Managing Investments in a Changing Climate", which described the key outcomes from the 2006 IIGCC conference and explored the key challenges faced by companies and investors in responding to climate change, and proposed a series of practical actions that can be taken by investors, companies and policymakers to strengthen efforts directed at achieving a low carbon economy.
We have also published two important reports on corporate climate change reporting. The first, "The Climate Change Disclosures of European Electricity Utilities", concluded that there are significant gaps and inconsistencies in the data that electricity utilities provide on their greenhouse gas emissions and other climate change-related issues, with the consequence that it is extremely difficult to assess the risks and opportunities posed by climate change policy to individual companies and to understand the manner in which the different companies have structured their business strategies and capital expenditure plans to respond to climate change. The report set out Insight’s expectations for electricity utilities’ disclosures in this area and highlights examples of good practice in the sector. The second report, "Climate Change Disclosure Standards and Initiatives: Have They Added Value for Investors", critically analysed investor-supported disclosure initiatives such as the Carbon Disclosure Project, the Global Reporting Initiative and the Framework for Climate Risk Disclosure Initiative, noting that these initiatives have yet to provide the consistent and comprehensive reporting that would allow investors to make meaningful comparisons between companies and to analyse the financial implications of climate change. The report proposed that investors need to provide more specific guidance to companies on issues such as the scope of reporting and the preferred reporting protocols, and argued that, unless investors are prepared to directly engage with companies, company disclosures on climate change will continue to fall some way short of what is required by investors. Both of these reports have been distributed widely – to companies, policy makers and other investors – and Insight has engaged with a series of companies to encourage them to improve their disclosures in line with our suggestions. The reporting framework we proposed for electricity utilities has been adopted by the IIGCC in its Global Climate Disclosure Framework for Electricity Utilities.
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Participating in collaborative initiatives
One of the key gaps in collaborative investor initiatives has been the absence of an agreed position on the importance that investors assign to climate change. Insight led the drafting of the Institutional Investors Group on Climate Change Investor Statement on Climate Change, which was launched by Insight at the IIGCC Conference in Paris in October 2006. The aim of the Statement is to signal to companies and policymakers the extensive support among investors for effective action on climate change. At present, the Statement has 16 confirmed signatories representing approximately £850 billion in assets under management. Insight actively encourages other investors to become signatories to the statement.
Insight also supports a range of leading climate change initiatives. For example
- Rory Sullivan is a member of the Steering Committee of the IIGCC, a forum for collaboration between pension funds and other institutional investors on issues related to climate change. He has also played an active role in the IIGCC’s public policy work to ensure that public policymakers take into account the long-term interests of institutional investors in their decision-making processes.
- Insight has been a signatory and active contributor to the Carbon Disclosure Project (CDP) since its inception in 2003. On behalf of 225 institutional investors representing £31 trillion of investments, CDP writes annually to the FT500 Global Index Companies requesting information on the business risks and opportunities associated with climate change. In September 2006, Insight launched a report "Climate Change Disclosure Standards and Initiatives: Have They Added Value for Investors" that critically examined the contribution of the CDP and other initiatives to improving the quality of corporate reporting on climate change.
- Rachel Crossley is a Trustee of The Climate Group, a not-for-profit global coalition of cities, states, governments and corporations committed to actively collaborating to cut greenhouse gas emissions, sharing experience and working together to encourage others to actively reduce greenhouse gas emissions. She also sits on the Advisory Board of The Climate Group.
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Publications
Reports
"Taking the Temperature: Assessing the Performance of Large UK and European Companies in Responding to Climate Change"
"Managing the Unavoidable: Understanding the Investment Implications of Adapting to Climate Change"
"Managing Investments in a Changing Climate"
"Climate Change Disclosure Standards and Initiatives: Have they Added Value for Investors"
"Climate Change Policy Uncertainty and the Electricity Industry: Implications and Unintended Consequences"
"The Climate Change Disclosures of European Electricity Utilities"
Briefings
"Climate change disclosure standards and initiatives: have they added value for investors?"
"Do climate change disclosures meet investors' needs?"
"Addressing uncertainty in climate change policy: a dialogue between institutional investors, companies and policymakers"
"Investor collaboration on climate change: the work of the IIGCC"
Articles
"Institutional investment - Public Policy's impact on climate change", Ethical Corporation November 17 2006
"Climate change: investors taking note (slowly)", Ethical Corporation October 26 2005
"Ask the experts: Climate change", Financial Times October 5 2006
"Investors take the lead to help save the planet", Financial Times October 4 2006
"Power generators: greater disclosure and clarity required", Ethical Corporation July 4 2006
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