Despite the increasing urgency to act in the face of climate change and the scale of the problem, the rate of investments deployed toward creating climate solutions remains severely insufficient. The IPCC estimates that investments in renewable energy alone need to double from the current level of $250B per year to meet the annual global growth in electricity consumption and to decarbonize the existing energy systems. Moreover, studies estimate that if no immediate action is taken and temperatures increase by 2°C, the global GDP will fall 15% by 2100. This highlights the significant material risk that climate change poses to the economy.
Based on the premise that with increased communication around climate risk, investors will be more likely to deploy capital in climate solutions, the Climate Solutions Collaborative (C2C) recently conducted a survey among a cohort of our advisor members to learn how climate risk is defined and communicated to clients. The survey results highlighted key challenges among advisors around proactively communicating climate risks to clients, building internal organizational capacity to have these conversations, and having consensus around the definition of climate risk.
Following the survey, Confluence organized a convening during Climate Week in New York to engage with subject matter experts, asset owners, and advisors in an open discussion about how to effectively initiate the conversations with clients about climate risk. The meeting was generously hosted at The Nathan Cummings Foundation.
Understanding Climate Risk
Michael Northrop, Program Director for Sustainable Development at Rockefeller Brothers Fund, led discussion to understand climate risk implications and strategies that account for these risks in investment portfolios. Michael started by asking the panelists about the scale of the problem. The panelists included Mark Campanale, Founder & Executive Director, Carbon Tracker; Anne-Maree O'Connor, Head of Responsible Investment, NZ Super Fund; and Matthew Welch, President, Sustainable Accounting Standards Board (SASB).
Mark started the discussion by explaining valuation risk. He shared that up to 40% of the valuation of many oil and gas companies is based on fossil fuel reserves but that the market does not factor the risks of regulatory or technological disruption that might make these assets unusable (also known as stranded assets). He shared that the energy industry and its investors are underestimating the competitiveness of alternatives like renewable energy and the threat they pose in disrupting the fossil fuel markets; a similar risk is present in many other industries as well.
Anne-Maree spoke about her team’s journey to incorporate climate risk in their $20B+ portfolio. As the national pension fund to New Zealand, NZ Super Fund is focused on creating multi-generational growth, so the team is highly attentive to long-term risk to the portfolio. Concerned by climate risk, the Fund staff actively assesses emissions data in selecting investments. The team also identified that in addition to technological and policy disruption, flooding from rising sea levels presents a grave concern for several of New Zealand’s major urban centers. These ecological projections helped to advance a climate risk strategy at the board level.
Matthew expressed contradictions in disclosure and reporting. He highlighted how investors are continuously frustrated by the lack of quality data in conducting ESG screening, while companies have begun to feel overwhelmed by the amount of disclosure and reporting they must undertake. SASB, with an investor network representing $33T, has built climate-related reporting standards in consultation with various industries and asset managers. SASB’s climate reporting guidelines cover issues of climate risk from multiple perspectives, including how the companies are contributing to climate change and how they might be affected by future climate risks. Such data can help investors to plan the most appropriate strategies for their portfolio, ranging from screens and divestment to active shareholder engagement.
Communication Opportunities and Challenges
Jameela Pedicini, Executive Director, Climate Finance Initiatives, Bloomberg LP, led further discussion on three key issue areas:
- What are the communication opportunities and challenges for clients around climate risk?
- How do climate risk assessments affect the internal investment processes at advisory firms?
- What portfolio opportunities exist?
The panelists included Michael Lent, Head of Mission-Related Investing, Veris Wealth Partners; John Goldstein, Managing Director, Goldman Sachs; and Liqian Ma, Head of Mission Related Investing, Cambridge Associates.
All three panelists noted the crisis-level seriousness of the issue, but also acknowledged the challenge of having these conversations with their clients, who are at different levels of knowledge regarding climate change, risk tolerance, and portfolio mix. John expressed his view that these discussions must be from a purely financial standpoint, without the influence of individual advisors’ ideologies and biases. Liqian further elaborated that the ways in which advisors broach these topics matters: framing the risks and highlighting opportunities in ways that align with the client’s vision is key. Michael reminded everyone that advisors can learn from their clients as well, some of whom are experts on these issues.
On the topic of building internal capacity and processes to better respond to the mounting climate change challenge, all three panelists emphasized continuous investment in their teams’ skills and the importance of building knowledge by keeping abreast of the latest research. Michael also talked about using this knowledge to educate and communicate with clients. John emphasized the need to hire more experts and specialists to teams. Additionally, Liqian shared how the long-term horizon for assessing investments has to be constantly re-emphasized among team members; even employee performance should be assessed over a longer five-year period.
The panel concurred that aligning incentives and crafting compelling narratives around the potential impacts of climate change is another way to build greater team capacity and motivation.
While discussing opportunities and challenges in moving capital toward climate solutions, passive investing in index funds was raised as a major constraint. Investment committees are often reluctant to veer away from the relative financial safety of these instruments. Liqian suggested that framing climate risk as a governance question, rather than an environmental issue, was one way to proceed. John recommended using data to make the case from a financial standpoint. Michael added that continuous client education is an important tool to ensure that clients remain receptive to the challenges and opportunities as they evolve. Promoting greater adoption of ESG-screened index funds is another alternative, all agreed.
Jameela posited that an effective way to move capital into climate solutions may be to identify the opportunities that climate change provides, such as the emergent “transition finance” investment theme, innovative strategies that move us to a low-carbon future. Organizations across a number of industries are trying to identify their transition pathways and strategies, and “This is a major investment opportunity,” said Jameela.
Conclusion
Jeff Scheer, Director and Partner at Pathstone, concluded the convening by engaging audience members to share their reactions and ideas. The suggestion to build a new generation of board members that understand sustainable finance received broad appeal. Scaling up private investments was identified as another powerful way to promote climate solutions. The session wrapped with a call to action to improve communication and engagement with clients, recognizing the dire urgency of the climate crisis.
To learn more about Confluence Philanthropy’s RiskShift findings, contact: info@confluencephilanthropy.org
