Time for pension funds to save the planet

Photo from Markus Spiske

Stuart Singleton-White

UK pension funds will be required to account for climate risk and environmental social governance (ESG) factors in their investment decisions from October 2019. This welcome move from the UK’s regulator comes against a backdrop of slow responses to the threat of climate change from the world’s largest pension funds. Will it act as a spur to other regulators and the global pension industry to take action?

The news from the UK is in stark contrast to two other reports published in the past week. The Asset Owners Disclosure Project (AODP), part of investor pressure group ShareAction, has shown that most of the world’s largest public pension funds provide little or no information about how climate change will affect the value of their assets. And HSBC, in a survey of 1,700 senior executives from companies looking to raise funds and large scale institutional investors, found that less than 10 per cent were aware of the work of the Taskforce on Climate-related Financial Disclosures (TCFD), which last year issued guidelines on how businesses should report on material risks arising from climate impacts.

The responsibility for pension fund trustees to understand the impact of climate change risk on their portfolios will be no small task. To do this properly they will need to take account of a huge number of factors to determine the materiality of each of the risks identified.

This needs to include the risks posed by tropical deforestation and the reduction of natural capital resources, such as those ecosystem services that underpin our global economy. As the need to tackle climate change becomes more urgent and the awareness of the environment and social impacts of deforestation grows, pension funds also face increased regulatory and even reputational risks. Divestment campaigns will grow.

One example is the potential risk to (and from) soft commodity supply chains, such as palm oil, soy, cattle, and pulp and paper. Risks can affect companies along the whole supply chain and can come in the form of reduced production, interruption to production from severe weather events, and even stranded assets.

A vicious circle exists. Most tropical deforestation is the result of agricultural expansion; deforestation is responsible for up to 20 per cent of global emissions, which fuel climate change that impacts agriculture in a multitude of ways. With growing demand for soft-commodities, investment could continue to flow into agricultural expansion and deforestation unless these risks are properly assessed and accounted for in decision making. And yet, protecting and restoring tropical forests could contribute up to a third of the emission reductions needed to meet the Paris Climate Agreement commitments.

Global Canopy and their partners have developed a range of tools to help financial institutions to assess the risks they face. Script.Finance allows portfolio managers to assess their investments against exposure to deforestation risk. Trase.Earth tracks soft commodities supply chains and brings a new level of transparency to those supply chains, allowing investors to assess the risk faced by the companies they are investing in. And Forest 500 data highlights the slow pace of company policy adoption around zero deforestation. This is all information which pension funds can use to screen their investments and lead the charge in switching away from climate and forest destruction. In doing so, they will help to meet their new reporting obligations and reduce the risk to their long-term returns. There are no more excuses, financial institutions must act.