BEYOND DIVESTMENT: USING LOW CARBON TARGET INDEXES

Transcription

1 BEYOND DIVESTMENT: USING LOW CARBON TARGET INDEXES January 26, 2016 IRRC Institute Webinar 2015 MSCI Inc. All rights reserved. Please refer to the disclaimer at the end of this document.

2 AGENDA Introductions Review Research IRRCi Perspective Q&A 2

3 LOGISTICS Attendees in listen only mode. Questions encouraged. Use the Question function in control panel to submit question. We will answer following report overview. You will receive with link to replay and presentation. Report and all other IRRC studies available at Share info on social media. Find us Audio issues during webinar, contact

4 SPEAKERS Linda-Eling Lee, Co-Author & Global Head of ESG Research Jon Lukomnik, Executive Director 4

5 ABOUT THE INVESTOR RESPONSIBILITY RESEARCH CENTER INSTITUTE Not-for-profit established in Funds, disseminates objective, unbiased research on range of issues at intersection of corporate responsibility, investors informational needs. Academic and practitioner research that examines the capital market context that impacts how investors and companies make decisions. Annual research award with two $10K awards More than 40 research reports available at no charge. 5

6 INTRODUCING MSCI ESG RESEARCH MSCI ESG Research is the world s largest provider of Environmental, Social and Governance (ESG) data and research 1 We work with 45 of the top 50 global asset managers 2 - over 900 clients in total including 125 asset owners Global staff of over 220 dedicated full time to ESG business, including 150+ ESG research analysts 2 Over 40 years experience in ESG (IRRC, KLD, Innovest, GMI Ratings) 3 San Francisco Toronto Portland Boston New York Rockville London Paris Frankfurt Geneva Beijing Tokyo Monterrey Hong Kong Mumbai Manila Cape Town Sydney 1 By coverage and/or staff based on public information produced by Sustainalytics, EIRIS, Trucost, as of August Based on P&I AUM data as of Dec 2014 and MSCI clients as of June Source: MSCI ESG Research as of June

7 AGENDA Context: What is the Investment Problem? Addressing Portfolio Carbon Exposure Why Low Carbon Indexes? 7

8 A CRITICAL MASS OF INVESTORS ARE PAYING ATTENTION TO CLIMATE RISK Report and engage 49+ companies so far facing 2016 climate-related resolutions* Reduce exposure $600 bn AUM of institutional investors pledging to decarbonize portfolios * Based on Ceres database as of 17 January 2016, * Based on Portfolio Decarbonization Coalition as of 25 January 2016, 8

9 WHERE DID THE CONVERSATION START? COAL, OIL & GAS COMPANIES OWN MORE RESERVES THAN CAN SAFELY BE BURNED Potentially Stranded Reserves 2,795 GtCO 2 Carbon Budget 886 GtCO 2 Source: Carbon Tracker Initiative, Unburnable Carbon Are the world s financial markets carrying a carbon bubble? 2015 MSCI Inc. All rights reserved. Please refer to the disclaimer at the end of this document.

10 WHAT ARE CARBON STRANDED ASSETS? CARBON STRANDED ASSETS /ˈkɑːb(ə)n/strandɪd/ˈasɛt/ Assets that may lose economic value ahead of their expected life because of changes in regulation, market forces, environmental concerns, societal norms, and innovation associated with the transition to a low carbon economy. 10

11 THE CONTEXT: POLICY Stay under 2⁰ Celsius warming 195 countries pledged reduction plans to be revised every 5 years 2015 MSCI Inc. All rights reserved. Please refer to the disclaimer at the end of this document.

12 COMPANIES REDUCTION PLANS FALL SHORT OF COUNTRY COMMITMENTS MADE IN PARIS PROJECTIONS TO 2030: MSCI WORLD COMPANY CARBON REDUCTION PLANS VS. COUNTRY COMMITMENTS AND 2 DEGREE SCENARIO REQUIREMENTS (%) REDUCTION TARGETS: GAP ANALYSIS: How much companies are aiming to reduce: -17% How much countries have committed to reduce: -23% Estimated reduction requirement under 2 degree scenario: -32% 6% shortfall between corporate and country targets = 370 Mt CO2e 15% shortfall between corporate targets and 2 degree scenario 6% 15% Source: MSCI ESG Research, Implications of COP-21: How to Corporate Carbon Reduction Targets Stack Up? (Dec 2015). Data as of 14 Dec 2015: companies: n = 1619, countries: as per targets submitted to the UN Framework Convention on Climate Change (UNFCCC) 12

13 CONTEXT: TECHNOLOGY COST OF RENEWABLE ENERGY IS FALLING Source: International Renewable Energy Agency, 13

14 TWO DIMENSIONS OF PORTFOLIO CARBON RISK 1 2 Fossil Fuel Reserves Carbon Emissions Fossil Fuel Reserves may become stranded due to emissions regulations or energy substitution Utilities may face stranding of the most carbon intensive assets 14

15 FACT CARBON EXPOSURE IS CONCENTRATED IN A FEW SECTORS Carbon Emissions (Mt) Future Carbon Emissions (Mt) (from reserves) 0 Energy Utilities Consumer Discretionary Financials Telecom 0 Source: MSCI ESG Research as of May MSCI Inc. All rights reserved. Please refer to the disclaimer at the end of this document.

16 FACT COAL IS MUCH MORE CARBON INTENSIVE THAN OTHER FUEL SOURCES Market Cap of ACWI Companies owning Fossil Fuel Reserves % % 0 Potential emissions by fuel type Source: MSCI ESG Research as of May MSCI Inc. All rights reserved. Please refer to the disclaimer at the end of this document.

17 RE-WEIGHTING V. SELECTION Short-term risk Long-term thesis Re-weighting Allows for different techniques (e.g., optimization) to manage short-term risk Aims to minimize exposure to companies most vulnerable to stranded assets Selection Tracking error is ignored in favor of longer-term considerations Exposure to companies most vulnerable to stranded assets depends on selection approach Stakeholder communication Public stance Communication to stakeholders is more challenging due to the more complex nature of the approach Allows investment in the full universe and keep communication channels open with companies Conducive to public communication with stakeholders when targeting key sectors or high profile companies Makes strong public statement that investor aims to influence corporate behavior Source: MSCI ESG Research 17

18 WHAT IS THE OPTIMAL LEVEL OF CARBON EXPOSURE? 18

19 MSCI GLOBAL LOW CARBON TARGET INDEX 19

20 MSCI LOW CARBON TARGET INDEX PERFORMANCE Source: MSCI. Example only. Past performance is not indicative of future results. 20

21 COMPARING LOW CARBON INDEX VERSUS ITS PARENT MSCI ACWI Index MSCI ACWI Low Carbon Target Index Total Return* (%) Total Risk* (%) Return/Risk Sharpe Ratio**** Active Return* (%) Tracking Error (%) Information Ratio NaN 1.08 Historical Beta Turnover** (%) Price to Book*** Price to Earnings*** Div. Yield (%) *Net Returns annualized in USD 11/30/2010 to 12/31/2015 period **Annualized one-way index turnover for the 11/30/2010 to 12/31/2015 period ***Monthly averages for the 11/30/2010 to 12/31/2015 period ****5 Yr Sharpe Ratio 21

22 MSCI ACWI LOW CARBON TARGET INDEX SECTOR & COUNTRY WEIGHTS ACWI Low Carbon Target Sector Weights 15% 4% 3% 5% 3% 11% 13% Energy Materials Industrials Consumer Discretionary Consumer Staples Health Care Financials Information Technology Telecommunication Services Utilities ACWI Sector Weights 15% 4% 3% 6% 4% 10% 13% Energy Materials Industrials Consumer Discretionary Consumer Staples Health Care Financials Information Technology Telecommunication Servic Utilities 21% 21% 13% 11% 13% 11% Country Weight United States 53.59% Japan 7.75% United Kingdom 6.73% France 3.34% Switzerland 3.29% Canada 3.06% Germany 3.05% China 2.35% Top 10 Country Weights Country Weight United States 53.87% Japan 7.78% United Kingdom 6.62% France 3.37% Switzerland 3.27% Germany 3.11% Canada 2.75% China 2.36% Top 10 Country Weights Australia 2.34% Australia 2.29% Korea 1.46% Korea 1.51% Source: MSCI,as of January 21,

23 CARBON RISK REDUCTION CARBON EMISSIONS SCOPE INTENSITY % REDUCTION VS. MSCI ACWI INDEX -15% -77% CARBON RESERVES NORMALIZED BY MARKET CAP % REDUCTION VS. MSCI ACWI INDEX 0% MSCI ACWIMSCI ACWI ex-fossil MSCI ACWI FuelsLow Carbon Target -100% -93% MSCI ACWI MSCI ACWI ex-fossil MSCI ACWI Fuels Low Carbon Target * Source: MSCI, as of 15 January 2015 MSCI ACWI Index Reserves = t CO2e / $M sales 23

24 KEY TAKEAWAYS A significant portion of current assets could become stranded and thereby drastically lose value. Approaches using sector-based selection (or divestment) help investors send a strong message to stakeholders but ignore short-term benchmark risk. Newer, innovative approaches that use re-weighting and optimization techniques, such as the MSCI Global Low Carbon Target and MSCI Global Low Carbon Leaders indexes, are more financially viable because they limit short-term risk against the benchmark. These newer strategies also are more expansive in addressing long term risk of carbon exposure by encompassing two dimensions of risk: current emissions and future emissions. 24

25 DOWNLOAD MSCI ESG RESEARCH REPORTS Find Beyond Divestment and other MSCI reports on msci.com www/research-paper/ beyond-divestment-usinglow/

26 ABOUT MSCI About MSCI ESG Research Products and Services MSCI ESG Research products and services are provided by MSCI ESG Research Inc., and are designed to provide in-depth research, ratings and analysis of environmental, social and governance-related business practices to companies worldwide. ESG ratings, data and analysis from MSCI ESG Research Inc. are also used in the construction of the MSCI ESG Indexes. MSCI ESG Research Inc. is a Registered Investment Adviser under the Investment Advisers Act of 1940 and a subsidiary of MSCI Inc. About MSCI For more than 40 years, MSCI s research-based indexes and analytics have helped the world s leading investors build and manage better portfolios. Clients rely on our offerings for deeper insights into the drivers of performance and risk in their portfolios, broad asset class coverage and innovative research. Our line of products and services includes indexes, analytical models, data, real estate benchmarks and ESG research. MSCI serves 98 of the top 100 largest money managers, according to the most recent P&I ranking. For more information, visit us at 26

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28 IRRC INSTITUTE PERSPECTIVE Climate change a systemic issue Systemic issues are struggles for investors. Modern Portfolio: Diversification minimizes idiosyncratic risk, not systemic risk Other conceptual frameworks (e.g. behavioral finance) also provide little guidance. Result has been something of an all or nothing dichotomy Divestment dealt with the systemic risk Also creates public profile But, creates short-term tracking error issue Particularly problematic for passive (index) investors 28

29 IRRC INSTITUTE PERSPECTIVE Why is that important? Index investing is growing at six times the rate of fundamental equity (stock picking) investment 35%! 30%! %!of!equity!mutual!fund!assets!that!are!passively!managed! 25%! 20%! 15%! 10%! 5%! 2014! 2013! 2012! 2011! 2010! 2009! 2008! 2007! 2006! 2005! 2004! 2003! 2002! 2001! 2000! 1999! 1998! Source: Passive investors, not passive owners, Ian R. Appel, Todd A. Gormley and Donald B. Keim,

30 IRRC INSTITUTE PERSPECTIVE Low carbon indices add a tool to investors toolboxes to allow them to choose factors that are most relevant to them: Tracking error vs. broad indices Public stance Time frame Level of avoidance of climate change systemic risk Actionable 30

31 QUESTIONS Use Question function in control panel. We will read aloud & respond. 31

32 CONTACT US MSCI IRRC Institute AMERICAS Phone EUROPE, MIDDLE EAST & AFRICA ASIA PACIFIC msci.com/esg-integration esgclientservice@msci.com Web Twitter jon@irrcinstitute.org 32