Spotlight on Your Portfolio: Carbon Footprinting Your Investment
You hear a lot of talk from Wall Street these days about how climate change presents “unprecedented business risks and opportunities.” While investment action doesn’t yet fully match this rhetoric, many major firms are establishing research shops focused on the investment implications of climate change. Some of the early (and quite excellent) work has been focused on the likelihood that the U.S. will pass legislation regulating carbon emissions in the next two years.
It’s been decades since we’ve seen this kind of sweeping environmental regulation in the U.S. Carbon regulation on its own – as well as other climate change impacts such as changing weather patterns and rising sea levels – will present big investment risks and opportunities for industries across the economy.
Carbon regulation will involve a “cap and trade” program similar to that now in place for sulfur dioxide emissions under the Clean Air Act. There are different proposed cap and trade models, with varying economic implications, but each would attach a financial cost to carbon emissions where there is none now. Conversely, there will be new financial incentives for reducing carbon emissions and for creating carbon offsets through renewable energy, energy efficiency, and other projects. Globally, cap and trade programs like the European Union’s “European Trading Scheme” have recently started operating as Kyoto Protocol signatory countries work to meet greenhouse gas reduction targets set for the 2008-2012 period.
U.S. carbon regulation has the potential to materially change the economic landscape. There will be winners and losers, determined in part by what type of legislation is passed. Large investors are increasingly concerned with the impact of carbon regulation on the playing field, and in the interest of reducing uncertainty, are advocating for public policy changes sooner rather than later. The Investor Network on Climate Risk is a coalition of 60 institutional investors (including many state pension plans and Trillium Asset Management Corporation) with a combined $4 trillion in assets. It has partnered with major corporations to call on Congress to enact federal legislation to curb greenhouse gas emissions, and also asked the Securities and Exchange Commission to oversee corporate disclosure on climate change. This is a rare situation indeed, where both corporations and investors are calling for more government regulation, not less.
Meanwhile, emerging research is indicating that carbon exposure is much more broadly and unevenly distributed than previously thought, both across and within industries. Sustainability-focused research firm Innovest reports, for example, that electric utilities face among the highest carbon-related costs of any industry, as you might expect, while within the industry, the expected cost of carbon regulation varies widely across companies largely according to their level of dependence on coal. The pharmaceutical industry, on the other hand, as a whole registers relatively low carbon-related costs. But again we see wide differences within an industry. Some of the carbon laggards among pharmaceuticals are actually projected to be more negatively affected by carbon regulation than some of the better-positioned electric utilities. This level of differentiation appears to exist across economic sectors, heightening the risks and opportunities for investors in the face of coming carbon regulation.
Some investors, including ourselves, are working to take an early start positioning investment portfolios for the changes U.S. carbon regulation might bring. We’re digging into industry-level carbon exposures, assessing company-specific commitments to reducing carbon emissions and looking for investment opportunities in renewable energy, efficiency enhancements and new technologies – in short, measuring and managing the carbon footprint of our portfolios. If carbon regulation legislation passes as predicted in 2009-2010, it will trigger economic impacts over the next decade, and the carbon footprint of investments will become an important new indicator of both financial and environmental sustainability