A changing landscape

Rising risk, rising regulation | ESG regulation UBS Asset Management

by Sabine Dittrich, James Browning, Regulatory Intelligence; Michael Baldinger, Head of Sustainable and Impact Investing; Susan Hudson, Head of Regulatory Management 10 jun 2019

Forging a path towards financial success

Preface

As the transition to a sustainable economy becomes a top political priority, the number of environmental, social and governance (ESG) regulations applicable to the financial sector – including asset management – continues to grow as politicians seek to direct capital towards sustainable investments. This article gives an overview of the main regulatory initiatives applicable to asset managers and their clients, focusing in particular on one of the most advanced initiatives: the European Union’s Action Plan on Sustainable Finance.

According to the World Economic Forum Global Risk Report 20191, four of the top five global risks in terms of impact are environmental. The report also assesses the three most likely risks facing our planet as environmental. A decade ago such risks did not even feature. That is why for investors and regulators alike, addressing those threats is imperative.

As a large-scale asset manager, we believe the capital markets will ultimately address these challenges. In short, capital will be allocated towards those companies best placed to transition to a long-term sustainable future and away from those less able to do so, as the former are most likely to deliver improved returns.

That is why, for some years now, asset managers have been integrating environmental, social and governance (ESG) considerations into their investment processes, not least to meet the requirements of their clients, who also recognize the financial and other benefits of sustainable investing (SI).

The scale of this move towards SI is clear. According to the 2018 Global Sustainable Investment Review, global sustainable investment reached USD 30.7 trillion at the start of 2018, an increase of 34% over the past two years. A key driver has been the risks posed by the most urgent of the environmental challenges – climate change:

  • Green house gases: Carbon pollution from fossil fuel is warming the air. Temperatures have risen by nearly 1°C since 1880 and are forecast to rise by 4°C by 2100.
  • Sea levels: Have risen by 20 cm since 1901.
  • Extreme weather: Events, such as Hurricane Harvey, have become more frequent and intense.2

These events pose threats to the economy and financial sector, ranging from the exposure of mortgage books to the Sovereign risk arising from extreme weather. This has led to an exponential rise in regulation as the following chart shows.


Exhibit 1: Cumulative number of policy interventions per year

Some initiatives directly tackle climate change, others focus on establishing frameworks for the financial sector to take sustainability into account in investment decisions.

As well as offering an overview of the regulatory landscape and highlighting key policy frameworks and initiatives. We also consider some of the challenges around these frameworks and initiatives in the context of how investors can integrate sustainability risks within their investment decisions.

Michael Baldinger
Head of Sustainable & Impact Investing,
UBS Asset Management

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