Thinking an uncertain future
So how do investors deal with the myriad challenges thrown up by climate change, navigate the complex web of legislation, and understand the consequences of different climate change scenarios?
There is no straight forward answer. But here is an approach using scenario analysis as a way to start thinking about climate change and identify not just risks, but also opportunities for investors.
The role of scenario analysis
Most investors are familiar with scenario analysis, but its application to climate change is relatively recent.
In its 2017 recommendations, the Taskforce on Climate-related Financial Disclosures (TCFD) – a working group led by Michael Bloomberg and supported by Mark Carney of which UBS is a member – explicitly stated that investors and companies undertake climate change scenario analysis.
A leading group of large scale European investors, The Institutional Investors Group on Climate Change (IGCC), formed a working group to create a five-step framework to help asset owners and managers use scenario analysis as a means of understanding how climate change can drive financial impact across their portfolios.
The IIGCC recommend a cross-functional approach: bringing together experts with backgrounds in risk management, investment and ESG, to create outcomes which are relevant to investors which they can then act on.
Ultimately, by giving investors a structured way to think about climate change, an effective scenario analysis offers a starting point from which early warning signs of climate change effects can be monitored. By observing these, investors are better placed to assess which climate scenario is most likely to unfold and position their investment strategy accordingly. In this way, they can optimize emerging opportunities while better managing downside risk.
The value of engaging
When thinking about climate change in an investment context, engaging with companies management is an important element for investors. It offers an opportunity to directly influence company behavior.
As part of a voting and engagement program, investors benefit by seeking an improvement in companies' governance, risk management, strategic alignment, targets and metrics, as well as the overall approach to disclosure.
At UBS Asset Management, a primary focus is the oil, gas and utilities sectors, where we identify specific areas of weakness and individual companies to engage with.
Whenever possible, we align our engagement with collaborative programs that are consistent with our goals. This includes Climate Action 100+, a global initiative of more than 300 investors with over USD 30 trillion of assets under management. We also align our engagements on climate issues with our voting policy: we actively support climate resolutions which are consistent with long-term shareholder interests.
Our observations on the ground
Our engagement action has highlighted several findings.
A large number of oil and gas companies are still in the early stages of explaining their strategy for transitioning toward a lower carbon future and the implications of that strategy. Just a few are able to articulate future actions in terms of business models.
In the utilities sector, particularly in the U.S, we found multiple companies retiring coal fired power stations. Some replace them with natural gas, others have more ambitious plans for renewable energy.
Michael Baldinger is New York-based head of sustainable and impact investing and Francis Condon is an Amsterdam-based sustainable and impact investing research analyst at UBS Asset Management. This content represents the views of the authors.