by Rob Z. Lee, Program Director, Climate Action Reserve

Climate change is altering long-term economic modeling, driving a reassessment of risk and asset values, and generating climate policies that will impact prices, cost, and demand across the entire economy.

According to the UNFCCC, the world needs an estimated US$90 trillion in sustainable infrastructure investments to reduce climate risk and achieve the global greenhouse gas (GHG) reduction goals set in the Paris Agreement. In order to attract and grow the financing we need to meaningfully address the climate crisis, the market must have transparent and credible information about investments’ impacts.

Several initiatives and standards exist to bring focus and transparency to the climate impact of investments. The Reserve’s Climate Impact Score program quantifies any discrete project investment’s expected climate impact, including its greenhouse gas reductions, enabling investors, underwriters, and secondary market participants to confidently direct financing toward projects that will have a positive climate impact. The Climate Bonds Initiative developed a standard certification providing science-based, sector-specific eligibility guidelines for the environmental credentials of a bond. And ratings agencies, such as Moody’s, Standard & Poor’s, and Fitch, have developed climate risk assessments to provide market participants with a greater level of visibility and transparency on the implications of policy, legal, technology, and market changes associated with a transition to a lower carbon economy.

At the Climate Action Reserve, we believe that there are three climate lenses through which any investment should be assessed: 1) climate risk, 2) organizational footprint, and 3) climate impact.

1. Climate risk:

Climate risk, the focus of Mr. Fink’s letter, can be described as the threat to existing businesses posed by the impacts of climate change. Responsible risk management requires investors to incorporate the anticipated impacts of climate change into their investment decisions. These impacts vary depending on the underlying investment, ranging from impacts such as sea level rise threatening the value of coastal real estate, potentially trillions of dollars in stranded fossil fuel assets, or diminished labor productivity in heat exposed industries such as construction, manufacturing, and transportation. In order to appropriately assess the risk profile of an investment portfolio, each discrete investment should have an assessment of climate related risks.

2. Organizational Footprint:

An organizational footprint refers to the greenhouse gas (GHG) emissions associated with a company’s operations (i.e., scope 1, 2, and 3 emissions). Most corporations that report on GHG emissions report solely on scope 1 (direct emissions from owned and controlled sources) and scope 2 (indirect emissions from generation of purchased energy) emissions. However, to get a clear view of the full impacts of a company’s operations on the climate, scope 3 (indirect emissions not included in scope 2 both up and down stream throughout the company’s value chain) must also be considered. Literature suggests that there is a link between superior performance on GHG emissions and companies with inferior performance on GHG emissions within specific sectors. This may suggest that outperformance on GHG emissions is an indicator of strong management, as a lower relative GHG impact in comparison to industry peers could suggest efficient operations. However, caveats to consider are that these findings are biased towards larger firms that have the resources to conduct such reporting, and that this reporting is voluntary.

3. Climate Impact:

As opposed to avoiding investments that have exposure to climate change related risks, investors can take positive steps to invest in companies that provide solutions to the climate crisis. Companies that fall into this category could include renewable energy companies like solar PV or wind turbine manufacturers. Such manufacturers may have significant scope 1 and 2 greenhouse gas impacts from their manufacturing operations, which would make them potentially unattractive if viewed through the lens of organizational footprint, but it is clear that these sorts of companies have a critical role to play in the transition to an economy of the future powered by 100% carbon free sources.

Investment strategies need to change in light of the challenges posed by the climate crisis. It remains to be seen how the greater financial sector shifts investment capital in response to climate change, but with seven trillion dollars under its management, BlackRock is in a position to make a very serious difference. Moving capital away from investments that are exposed to climate risk, however, is not enough: we must also encourage investment into climate solutions. Let’s hope that BlackRock’s move is just a first step, and serves as a harbinger of much more aggressive and positive action to come from the wider financial community.

Rob Z. Lee is the Program Director of the Climate Action Reserve. He can be reached at [email protected] and (213) 785-1230.