Investors add to pressure on climate change risks

Climate change risks are becoming an increasingly important factor in investment decisions - but a group of concerned UK institutional investors is warning that pension fund consultants and brokers are failing to provide the support that they need. The group has also issued two reports warning that the electricity and aviation industries are particularly exposed on the issue.

The financial community's engagement with climate change risks is developing rapidly, driven by the imminent arrival of an EU emissions market (ENDS Report 346, pp 21-24 ). Further evidence of the shift came in late November, when 200 financiers attended a London conference organised by the Institutional Investors Group on Climate Change and the Carbon Trust.

The IIGCC was set up two years to promote better understanding of the investment implications of climate change and to encourage companies and markets to address the risks and opportunities it poses.

The group's membership now includes 19 largely UK-based investors with assets of more than €700 billion. As well as major fund managers such as Schroder, BNP Paribas, ISIS and Henderson, the group has unusually strong representation from pension funds.

"This issue will affect our holdings over both the short and long term - and a changing climate itself could affect pension fund members through their retirement," explains David Russell of the Universities Superannuation Scheme, one of the UK's largest pension funds.

One clear area of concern at the conference was that two key parts of the finance community are lagging behind in their engagement with the issue.

The first group is pension fund consultants. "The gatekeepers between pension funds and their fund managers have not yet consciously engaged with climate change as a risk - or opportunity - for long-term responsible investors," said IIGCC chair Peter Scales. The group plans to step up efforts to engage with actuaries and the investment property sector.

The IIGCC is also concerned that financial analysts, particularly on the sell side, are still failing to assess climate change risks in their reports on companies or sectors. The only significant exception is the electrical utilities sector - which is particularly exposed to the EU emissions trading scheme and is relatively easy to model.

Sue Livingston of Schroder Investment Management told the conference that the IIGCC has written to the 27 largest brokers urging them to treat the issue more systematically. It has received only five responses, but plans to follow up the initiative in 2004.

The conference also saw the launch of two reports for the IIGCC on the implications of climate change for two key sectors:1

  • Electric utilities:
    The first report covers relatively well-trodden territory - the impact of the imminent EU emissions trading scheme on the power sector. The IIGCC notes that the scheme has prompted a "remarkable stream of research activity" from financial analysts over the last 6-9 months (ENDS Report 346, pp 21-24 ).

    So far, much of the attention has focused on the impact of the initial allocation process on company valuation. However, the report stresses that "investors should not lose sight of the broader implications of carbon constraints for utility companies and their power generation business models."

  • Aviation industry:
    This is the fastest growing source of greenhouse gas emissions - and the IIGCC expects fiscal measures to be introduced over the next five years to manage demand and reduce emissions.

    Analysis by Dresdner Kleinwort Wasserstein argues that the sector is unlikely to be brought within the EU trading scheme until 2008 at the earliest (ENDS Report 345, pp 48-49 ). Introducing an emissions charge before then, at a rate of €2 billion in the UK and €10 billion across the EU, would reduce passenger volumes by 4%.

    In terms of volumes, low cost airlines such as Easyjet and Ryanair would be hit harder than the flag carriers - but the reduction in operators' profits, ranging from 9% to 80%, would hit the flag carriers worse.

    Next year, the IIGCC plans to extend its focus to other sectors, with construction products, insurance and metals and mining at the top of the list. It is also planning a major seminar looking at the property investment sector.

    "We want to encourage analysts to produce reports on the implications of climate change for a wider range of sectors," David Russell says. "The reports should be aimed at ensuring that all investors, not just those in the SRI [socially responsible investment] community, are made aware of climate change in their investment decisions."

    The IIGCC is also planning to work with the Investor Network on Climate Risk, a new group of US investors, to ensure a co-ordinated approach.

    The INCR, which represents ten major state and union pension funds, was launched in November at a UN conference in New York. The conference was attended by 250 investors managing funds worth more than $2.5 trillion - suggesting that US investors are worried about climate change risks despite the Bush administration's sceptical stance on the issue.

    The INCR's first action has been to launch a ten-point "call for action" urging the US Securities and Exchange Commission to require better disclosure of climate change risks.

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