How climate aware are you?

COVID-19 has amplified the climate change challenges faced by investors and highlighted the need for resilience and adaptable infrastructure. Will this lead to a turning point in the climate challenge and make investors more climate aware?

09 Jul 2020

While a lot is being done to invest for a lower-carbon world, investors are signalling the need to be more ambitious and move faster. Our own research has shown that allocators want to use their capital in a climate-smart way and help close the climate gap.

De-carbonizing existing portfolios won’t be enough. Waiting for data to be perfected or legislation to be put in place only prolongs the delay, while placing faith in the ingenuity needed to support economic growth with net negative CO2 emissions could prove misplaced.

2100 warming predictions

Source: Climate Action Tracker, September 2019.

The effects of global warming are already quite clear. By 2100, our planet will experience the highest temperature it has ever seen in human history1

Investors need actionable tools and techniques: methodologies that guide them in a changing and uncertain world, providing greater certainties so they can allocate their capital in ways that drive the low-carbon transition. And most importantly, they need to be able to act today, not wait for tomorrow.

We recognize these shortcomings which is why we are proposing a methodology to help investors become fully ‘climate aware’.

Moving away from a dependence on backward-looking data and toward a forward-looking model can help them to position their portfolio for a climate-smart future.

Our methodology contains three key elements:

  • Portfolio mitigation: Lowering investment exposures to carbon risks
  • Portfolio adaptation: Increasing investment exposures to climate-related innovation and solutions
  • Portfolio transition: Aligning investments to the requirements of a lower-carbon economy

It is a pragmatic, flexible, investor-led approach. Minimizing allocations to companies most negatively affected by climate change should help to mitigate the downside risk, while increasing exposure to companies with climate-smart business models and offerings may maximize the upside opportunity.

By balancing each of these three elements investors can:

  • Achieve a holistic, forward-looking approach to tackling the uncertainties and challenges of climate change
  • Adjust one or more of the individual elements as circumstances change
  • Have an opportunity to make better informed investment decisions and use their weight of capital to influence change

Minimizing allocations to companies most negatively affected by climate change should help to mitigate the downside risk.

At any given point in time, investors can dial up or dial down one or all of the three elements, to better balance their climate risks and objectives.

A program of active engagement underpins the methodology, which is essential. It looks to provide deeper insights to the actions and progress which companies are making toward a climate-smart future. Those insights mean that investors can directly link the adjustments they make to investments in their portfolios to actions that investee companies are taking to address climate change.

Through this combination of portfolio strategy and collaborative engagement, investors may have a significant impact on efforts to tackle climate change. We call this combination of portfolio adjustment and active engagement the ‘Climate Aware’ framework.

Increasing exposure to companies with climate-smart business models and offerings may maximize the upside opportunity.

It can serve as a blueprint for investors to address the historic challenges presented by climate change. The climate aware framework is based on a UBS investment strategy developed in conjunction with a UK pension fund. It aims to meet current investment goals while taking into account climate change objectives such as lower-carbon footprint, reduced exposure to fossil fuel reserves, and greater exposure to renewable energy opportunities. By including engagement, it has also been designed to be forward-looking.

The framework in practice

Source: For illustrative purposes only. UBS Asset Management, January 2020

The climate aware framework is based on a UBS investment strategy and aims to meet current investment goals while taking into account climate change objectives such as lower-carbon footprint, reduced exposure to fossil fuel reserves, and greater exposure to renewable energy opportunities. By including engagement, it has also been designed to be forward-looking.

Modelling climate change, especially in the context of equity and fixed income portfolios, means using sophisticated assumptions around the uncertainties of climate change, given we don’t yet know its full implications. To add clarity to our own modelling, UBS has been working in several innovative areas. For example, we look at factors like supply chain patents, and improvements to qualitative data, such as greater levels of disclosure by companies around target emissions. As data availability improves we expect the opportunities for integrating these types of metrics into portfolios to increase. We believe similar mitigation approaches can also be applied more generally to support a broad investment portfolio.

Canada Asset Management

Views and opinions expressed are presented for informational purposes only and are a reflection of UBS Asset Management’s best judgment at the time a report was compiled, and any obligation to update or alter forward-looking statement as a result of new information, future events, or otherwise is disclaimed. Commentary is provided at a macro level and is not with reference to any investment strategy, product or fund offered by UBS Asset Management and is provided in Canada generally pursuant to the registration exemption provided for in Section 8.25(2) of National Instrument 31-103 and in Ontario pursuant to Section 34 of the Securities Act (Ontario) and does not purport to be tailored to the needs of the person or company receiving the advice.. The information contained in the materials should not be considered a recommendation to purchase or sell any particular security. The materials and content provided will not constitute investment advice and should not be relied upon as the basis for investment decisions. As individual situations may differ, clients should seek independent professional tax, legal, accounting or other specialist advisors as to the legal and tax implication of investing. Plan fiduciaries should determine whether an investment program is prudent in light of a plan's own circumstances and overall portfolio. UBS Asset Management services offered to Canadian persons are provided by UBS Asset Management (Canada) Inc., a Nova Scotia corporation. UBS Asset Management (Canada) Inc. is an indirect wholly-owned subsidiary of UBS AG and is registered as a portfolio manager and exempt market dealer (in all provinces of Canada), commodity trading manager (Ontario), adviser – commodity futures (Manitoba) and investment fund manager (Ontario, Quebec and Newfoundland), all pursuant to Canadian securities law. Materials may include forward-looking statements. Actual future results, however, may prove to be different from expectations. Past performance is no guarantee of future results. Potential for profit is accompanied by possibility of loss.

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