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Active Ownership to Reduce Climate Impacts Across Investment and Lending Portfolios

Rickard Nilsson at Esgaia, highlights relevant initiatives (and how they relate to each other) that support financial institutions’ climate actions, and how maximising real world impacts will come from using engagement and active ownership to drive reductions in assets that need to transition.

Reaching net zero

Through the Glasgow Financial Alliance for Net Zero (GFANZ), financial sector net-zero commitments now exceed US$130 trillion. Still however, there is no standardisation on how to evaluate and validate forthcoming targets. Variations in boundaries, time frames and mitigation strategies make it difficult to compare goals, assess progress, and evaluate the credibility of financial institutions efforts to achieve net zero.

To drive alignment in portfolios – including achieving economy-wide decarbonization and a just transition – an investment strategy should prioritise engagement and stewardship and direct management (where relevant), particularly for existing assets. However, as we highlight in this article, given the urgency and based on historical evidence, this requires evolving practices from investors to make it more powerful and effective.

It’s time to evolve

Most investor guidance supports a joint view on the importance of accounting for the transition dynamic of assets, meaning that while we need to incentivise capital allocation to climate solutions and assets already on the right trajectory, maximising real world impacts will come from using active ownership and engagement to drive reductions in assets that need to transition. We need to understand however that ESG sometimes pays and sometimes doesn’t for companies.

Per a recent report from the UN-convened Net-Zero Asset Owner Alliance (NZAOA), corporate engagement becomes increasingly less effective when the business case for the requested action is impractical, uneconomic, or uncertain. When the decarbonisation needed is not technologically feasible, lacks sufficient economic incentives, or lacks stable, predictable, and reliable policy frameworks to build a business case, it will not materialise at scale through corporate engagement alone. Therefore, investors need to expand the breadth of their efforts and move from novel forms of engagement to increase efforts in sector/value chain engagement, policy engagement, and asset manager engagement.

Available guidance

On net-zero, there are several relevant initiatives that support financial institutions’ actions to reduce climate impacts across investment and lending portfolios. With criteria in these resources representing minimum requirements for target design, and given the lack of progress in the real world, we all need to contribute more resources and provide best practice examples to drive broad sector implementation. Below I highlight four of these resources.

First, the Science Based Targets initiative (SBTi) has issued near-term guidance for financial institutions and newly launched a net-zero foundations paper for financial institutions, which provides complimentary net-zero targets and will work in parallel. Both include dedicated information and recommendations around how to use engagement as a mitigation strategy. The foundations paper will be followed by an open stakeholder process to develop actionable criteria, detailed guidance, and technical resources to support financial institutions in the formulation and implementation of their science-based net-zero targets. Importantly, to reach broad alignment and usability, SBTi collaborates with both GFANZ and NZAOA around the latter’s Target Setting Protocol to ensure the frameworks account for potential differences in philosophies.

Second, the Paris Aligned Investment Initiative (established by IIGCC) published their Net Zero Investment Framework in March 2021, which provides a set of recommended actions, metrics and methodologies for investors to maximise their contribution. It currently covers the asset classes Sovereign bonds, Listed equity, Corporate Fixed Income and Real Estate, with active plans for extension.

Third, the Investor Agenda’s Expectations Ladder, released in May 2021, provides clear expectations and actionable steps for Investor Climate Action Plans (ICAPs). These are aligned with and complementary to the investor net-zero alliances guidance, providing a good stepping stone for investors early on in their net-zero journeys that accounts for differences in progress in investors’ climate journeys.

Fourth, the Institutional Investors Group on Climate Change (IIGCC) has launched a new toolkit, which provides a systematic framework consisting of six key steps that codifies best practice for all investors, aligned with the aforementioned net-zero investor initiatives.

Author: Rickard Nilsson, Spokesperson and Director, Strategy & Growth at Esgaia. With years of experience in responsible investing, Rickard focuses on market intelligence and outreach, and promotion of industry best practices. He is passionate about all things esg, especially investment stewardship and how engagement can help advance sustainability practices.

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