Climate change: The gathering storm

19 Jun 2019

Bacon sandwiches are dangerous. Aside from the well-publicised threat to your arteries, one once helped to damage the political aspirations of a former leader of the Labour Party. Now the breakfast staple has a new victim in its sights: the environment.

Indeed, if you add sausage and egg to your bacon sandwich, the amount of harmful carbon dioxide released into the atmosphere is equivalent to a 12-mile car journey, the Eating Better Alliance claims.

These emissions are believed to be fuelling the freakish weather events that many around the world have had to endure in recent years. In 2018 this included snow falling in the Sahara, wildfires in California claiming around 100 lives while in Japan 22,000 people were hospitalised with heatstroke, which was followed by floods that killed 179 of its citizens. There were also floods and heat-waves in Europe while Africa saw cyclones.

Climate change not only damages your health it also damages your wealth.

Mark Lewis, BNP Paribas Asset Management

If such extreme events become the norm the impact on investors’ pockets would be huge. Climate change could wipe up to $4trn (£3.1trn) off the value of oil company assets and around $20trn (£15.7trn) across all sectors globally, the Bank of England has warned.

Losing money would be the least of peoples’ problems if man-made damage to our planet continues. In December, naturalist Sir David Attenborough described climate change as the greatest threat to humanity in thousands of years. It could, he believes, cause civilisations to collapse and wipe out most of the natural world.

To help avoid such catastrophe, almost 200 countries have signed a commitment – known as the Paris Agreement – to cut greenhouse gas emissions to restrict global temperature rises below two-degrees Celsius.

This will not be easy. The target would be missed if all of the UK’s known oil and gas reserves are burnt, Friends of the Earth Scotland says.

So to meet the commitment that was first agreed in Paris three years ago a huge re-alocation of capital is needed. “If some companies and industries fail to adjust, they will fail to exist,” Bank of England Governor Mark Carney wrote in The Guardian earlier this year.

A company that does not have a carbon footprint is rare, so all industries may have to “adjust”. However, oil and gas, mining, utilities, transport, aviation and IT businesses are particularly vulnerable to the re-allocation of capital needed to help move the world to a low carbon economy.

There are several risks associated with climate change that investors cannot ignore anymore, MSCI head of climate research Dana Sasarean says. “Half of the coal being produced in the US is by companies that are bankrupt. That is recognising lower demand for coal – market forces,” she says. So the message is clear: a company that is not phasing harmful gas emissions out of its operations will become an increasingly risky investment. “Climate change not only damages your health it also damages your wealth,” says Mark Lewis, head of climate change investment research at BNP Paribas Asset Management.


Considering climate change when making investment decisions should not be an afterthought, it is part of institutional investors’ fiduciary responsibility, says Victoria Barron, a responsible investment analyst at Newton Investment Management. “Investors should be concerned from a holistic and existential perspective because the whole point of institutions investing is that they are investing for the future, for future generations,” she adds.

“When a mine is flooded from huge, unexpected rainfall or a retailer has to scramble to find alternative sources for their raw materials, that’s likely the impact of climate change. It is not a one-off impairment,” Barron says. “It will continue because we don’t know how climate change will impact operations globally and that impact will feed back up to investors.”

And this impact is challenging conventional wisdom, Lewis says. “I am 53 now and when I was at university the standard mantra was that the closest thing to a risk-free asset was a utility share. Utilities are meant to be low risk companies and you didn’t expect your capital to lose value.”

Yet he points out that in the past 10 years the European utility sector has lost between 50% and 60% of its value. “It has traditionally been regarded as the ultimate widows and orphans’ sector,” Lewis adds.

So, if it has happened in that sector, is any industry safe from the pressures that climate change brings?

Lower demand and higher costs are why utilities in Europe have lost so much of their value. This is the result of pro-renewable energy and energy efficiency policies set by governments, while putting a price on carbon has pushed up the cost of fossil fuel-based power.

That is going to ripple through the rest of the energy system,” Lewis says. “It starts with the power sector and is now happening in transport with electric vehicles becoming a bigger part of the mix.

“Electric cars pose an existential threat to the long-term demand for oil, which is predicated on the assumption that China and India will adopt the same consumption patterns as in the West. The jury is out on that.

“There is a massive amount of disruption to come,” Lewis warns. “That is before we get the big breakthroughs in energy storage. When that happens and renewable energy becomes dispatchable, it’s game over.”

This disruption could be driven by technological advances or new regulation.

There are two other ways that climate change manifests itself as a financial risk. The first is physical, which is predominantly an issue for insurers and companies where property is a large part of their value as they are exposed to extreme weather events.

Investors should be concerned from a holistic and existential perspective because the whole point of institutions investing is that they are investing for the future, for future generations.

Victoria Barron, Newton Investment Management

Then there is liability risk where companies are vulnerable to being sued, just as we have seen in the tobacco industry. A farmer in Peru, for example, is suing German energy giant RWE. He claims that the carbon dioxide it pumps into the atmosphere is causing snow and ice to melt in his hometown, putting a local lake at risk of overflowing. If he wins, many more energy companies may have to prepare for similar litigations.


Yet climate change is not just about protecting your portfolio against risk; there is also the potential to benefit from the new products and services needed to manage changing weather patterns and tackle their causes.

“From a company perspective, climate change is a risk and an opportunity,” says David Czupryna, an SRI senior client portfolio manager at Candriam, an asset manager.

Also seeing two sides to this issue is Lewis at BNP Paribas AM. “You have got to be alive to the risk and aware of the opportunities,” he says.

This opportunity might be why the E in ESG is so high profile. Environmental factors being more economically quantifiable than the social or governance pillars could be another reason. “Now that you can put a price on carbon you can quantify the impact it has on companies’ revenues and costs,” Lewis says.

Pricing may help investors assess the potential future impact of climate change on their portfolio, but it appears that there is a still a need for education in this area to stress its importance. Tim Manual, Aon’s UK head of responsible investment, says that for many trustees these impacts seem a long way away from the decisions they are making today, but there are things that they can do.

“Scenario analysis puts it into the context of their scheme and the decisions they need to make.

“That is capturing broad macro themes and is proving to be an important part of the education piece, getting it up the agenda and helping trustees realise the degree of priority that they need to have,” he adds. One asset owner who has looked at the impact a four-degree temperature rise could have on its portfolio is the HSBC Pension Scheme.

“It’s not pleasant,” chief investment officer Mark Thompson said at a recent portfolio institutional event. “The investment returns members were getting in that scenario were terrible.

“So, it’s consistent with our fiduciary responsibility to stop that outcome happening at a policy level,” he added.


There are several routes that investors can take to increase their chances of avoiding such an outcome.

Asset owners could add factor strategies to the mix, buy a passive index tilted towards cleaner companies, appoint an impact-focused manager or look for a fund designed to contribute to building a greener economy. Institutional investors could also exclude heavy greenhouse gas emitters, such as oil and gas companies, from their portfolios, but this strategy needs a lot of thought.

“If you chose to exclude fossil fuel companies then there is an opportunity cost,” says Mette Charles, senior investment research consultant at Aon. “There is a performance implication that you need to think about.” Oil majors invest billions of dollars in developing cleaner sources of energy and some have, thanks to pressure from investors, set targets to reduce their carbon footprint. So if investors had boycotted these companies 20 years ago the fight against climate change would be much harder today.

The strategy for many investors has been to invest in these businesses and then persuade management to change their corporate practices or behaviour. “It is about keeping a seat at the table and pushing through change. It is what is happening through groups such as Climate Action 100+,” Barron says.

“Exclusion is a blunt tool that people can use,” says Peter Walsh, head of asset manager Robeco’s UK business. “We are advocates for engagement rather than divestment. As a shareholder, if you divest a company then you have not changed their practices. Someone else has bought that share, possibly at a discount, and the company is still doing what it does.

“So it might avoid the headline risk of being criticised by lobbyists for owning that name, but the company is still doing what it does,” Walsh says. “You haven’t changed anything.”

Working with the Church of England, Robeco persuaded oil major Shell to set and put deadlines on achieving carbon targets, linking their success to the remuneration packages of its executives. Energy company Equinor is another example. It agreed, after speaking with UBS, HSBC and $80bn (£62.8bn) Norwegian asset manager Storebrand, to set climate-related targets beyond 2030 and strengthen the link between executive pay and those goals.


At a government level, the UK is working on formulating a plan to reduce its impact on the climate. In May, a Committee on Climate Change, a panel advising the government, recommended that the country eliminate all greenhouse emissions by 2050.

If you chose to exclude fossil fuel companies then there is an opportunity cost.

Mette Charles, Aon

There has been criticism that this is too far away and that the deadline should be brought forward, but it is too ambitious to wipe out carbon emissions entirely.

An industry that does not produce a carbon footprint is rare. Every company has a value chain where emissions are released. For example, building wind farms or electric cars involve getting the raw materials out of the ground.

“When it comes to the Just Transition [a framework seeking to ensure a seamless move to a low carbon economy], it’s important to remember that while renewable energies are a huge part of the solution, the minerals that go into them can cause environmental and social damage,” Barron says.

She adds that to improve the chances of carbon neutrality there is a need for better data, reporting, enforcement and awareness along lifecycles and supply chains. “It will also probably require offsetting,” she adds.

Sasarean disagrees saying that it is “unreasonable” to have a completely carbon neutral portfolio. “Either way you look at it there is an impact,” she adds. “Renewable energy companies use lifecycle components and although you are not using fossil fuels you are using electricity from the grid.”

So, it appears that asset owners will have to accept that they will have some carbon in their portfolio and that reducing rather than eradicating it should be the goal.

Handing less tax-payers’ money to oil companies could help achieve this. “Roughly speaking, about three times more subsidies annually go to the fossil fuel industry compared to renewable industry. It has to change,” Czupryna says.

More private capital invested in cleaner energies could also help. Czupryna adds that last year the amount invested in renewable energy fell after a strong 2017. Yet it appears that this is not due to a lack of appetite.

It is not a lack of private capital targeting greener technologies that is the problem, Barron believes. “It is a lack of projects at the appropriate risk level. As an active equity investor there are a limited amount of investments that we can make.

“Therefore asset owners have to empower asset managers to directly invest in smaller companies and smaller projects, unless they take on private equity exposure and do something a little riskier,” she adds.


Part of the reason why Barron says there is more capital looking for a home than there are suitable investments available is because awareness of the issue is growing. “Everyone knows that [climate change] is happening, and everyone knows that action has to be taken,” she adds.

Speeches by David Attenborough, protesters gluing themselves to the entrance of the London Stock Exchange, children walking out of school and speeches by Sweden’s most famous teenager have all put the topic in the headlines in the past year.

However, Walsh believes that it will take more than people occupying the streets to make a difference. “Another protest on climate change is not going to be the catalyst for broader awareness on the need and the importance of it,” he says. “Protests can, in my opinion, alienate some people, get them frustrated as opposed to achieving something more constructive,” Walsh adds.

Real change may have to come from governments. They, as Czupryna points out, have the levers to induce changes in behaviour, to reduce subsidises to fossil fuel companies, increase investment in cleantech and pass regulation to support a low carbon economy. It appears that we are winning the fight against the damage we are causing our planet. In many parts of the world, and in many industries, carbon efficiency is
improving, Czupryna says, pointing out that today fewer greenhouse gases are being released to generate $1 of growth. “That has been a trend across the world, even in China,” he adds.

This could be the result of intervention by investors and the government rather than protesters blocking roads. “Investors are pushing from the bottom through collaboration groups are engaging with companies, while there is pressure from the top in terms of regulation,” Charles says.

Regulation is evolving. Throughout Europe pension funds are required to disclose how they are including climate-risk into their portfolios, yet Sasarean believes that more needs to be done. “A lot of decision-makers at the top are waiting for one-big piece of regulation to clarify everything and make everybody join. They are waiting for a level playing field,” she says, adding that regulators need to take action and not just think about it. If not, it seems that the future looks bleak, partly because of the threat posed by the humble bacon sandwich.

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