Investing in a changing climate

But the reality check is that we’ve just experienced the 5th hottest year on record globally and the last 8 years have all been in the top 8 on record. And research published in the Guardian this week suggested that banks’ failure to address the risks associated with fossil fuel investing could trigger a banking crisis worse than 2008. What does all this tell us and what should we be doing?

The research report, published by a collective of climate activist groups known as the One for One campaign, suggests the UK could suffer 500,000 job losses and be forced to spend £674bn of taxpayer cash to rescue its banks and ensure financial stability unless the City prepares for the value of fossil fuels to collapse as a result of climate crisis regulations. https://www.theguardian.com/business/2023/jan/12/climate-regulations-could-trigger-banking-crisis-worse-than-2008.  Yet in the last year, investing in fossil fuels will have delivered strong returns and those companies themselves are deemed by many as critical to funding the transition to a cleaner energy future.

The research is clearly a call for climate action and highlights the risks of continuing to invest in these industries as Government regulation globally drives the decarbonisation.  But many of those companies such as BP are themselves deemed critical to funding the transition to a cleaner energy future.  Unless they change, they will not survive, but over what timescale?  Do you feel comfortable enjoying the strong investment returns in the meantime?  And can they make the transition?

So called ESG Integration is an investment approach that aims to factor an assessment of Environmental, Sustainability and Governance risks into any investment decision.  Our view has always been that this should be part of any good investment process.  It doesn’t mean that an investment manager would choose not to invest, just that they have considered all the risks of investing – and the potential returns – in their decision and as part of their overall portfolio.

The UK financial regulator (the Financial Conduct Authority or FCA) has just launched a draft regulation that appears to agree with this position and will mean that a fund that uses ESG integration but has no specific sustainability objective, will no longer be able to call themselves a sustainable or environmental fund.

The challenge has been that many firms and funds have implicitly – or sometimes even explicitly – given the impression that these investment strategies are having more of a positive impact.  And to date there have been no standard data providers or regulations to monitor this, so it is very hard for investors to know what they are actually investing in.

Last year, HSBC was criticised by the Advertising Standards Authority (ASA) for ‘greenwashing’.   As part of their “Climate Change doesn’t do Borders” campaign, they made various claims about the trees they had planted and the value of lending to help firms transition to net zero.  Both claims were true and HSBC had the evidence, but the ASA ruled that it wasn’t balanced as it was not clear that HSBC also still finances fossil fuels and therefore a consumer could be misled about their overall ‘green’ credentials.

The FCA draft regulation also aims to curb greenwashing and the changes are likely to lead to many current ‘sustainable funds’ having to either change strategy or name.

So how can we all try to navigate this complexity if we are worried about climate change? The industries of the future will be different from the industries of today but no one can forecast exactly how or when.  Some companies and investors will want to lead and some to follow.

And as with most things, it comes back to answering the core planning question of what you want to do with your money – what are your objectives?  If the primary motive is financial return, then any good fund manager should be factoring in the risks of climate change alongside a host of other risk and return factors in the investment decisions they make.  As part of our manager selection across all our core portfolios, we review and assess their processes – we are managing the risk but not leading the charge.   If you want to use some or part of your capital to support the transition to net zero more actively, then there are different options for investment including our Impact portfolio.

What we can be clear on is that climate change is one factor that has been part of our investment conversations for a while and, like the weather, is increasingly part of our client conversations.