Carbon Counts 2008 The Carbon Footprints of Australian Superannuation Investment Managers

Transcription

1 The Carbon Footprints of Australian Superannuation Investment Managers Australian Institute of Superannuation Trustees EXECUTIVE SUMMARY Key Data Carbon footprint of the ASX tco e/a$ mn Carbon footprint of MSCI All World Developed 07 tco e/a$ mn Average carbon intensity of 4 Superannuation Funds 57 tco e/a$ mn of Superannuation Fund holdings analysed A$.6 bn Lowest Superannuation Fund carbon footprint 76 tco e/a$ mn Highest Superannuation Fund carbon footprint 4 tco e/a$ mn Number of portfolios analysed 00 This ground-breaking collaboration with the Australian Institute of Superannuation Trustees provides the first assessment of the carbon footprints of 4 of the largest Superannuation Funds in Australia. The report examines the greenhouse gas emissions associated with 00 equity portfolios that employ different investment styles: Growth,, Sustainability, Index, Enhanced Index, Core and Small/Mid Caps. The combined emissions associated with portfolio holdings amount to.4% of Australia s emissions in 006, or 5.9 million tonnes of greenhouse gases. Lowest portfolio carbon footprint Highest portfolio carbon footprint 76 tco e/a$ mn 569 tco e/a$ mn For every million Australian dollars of revenue generated by companies in the ASX 00 Index, 70 tonnes of greenhouse gases are emitted. The carbon footprint of the ASX 00 is 0% larger than the carbon footprint of the MSCI All World Developed Index and almost 40% smaller than the relatively carbon-intensive MSCI Asia ex-japan Index. FURTHER INFORMATION AIST Andrew Barr + 6 () TRUCOST PLC. 00 Pall Mall London SWY 5HP, UK + 44 (0) AUSTRALIA + 44 (0) Lauren Smart lauren.smart@trucost.com GLOBAL + 44 (0) Peter de Graaf EUROPE +44 (0) Jessica Hedley Neil McIndoe Lauren Smart Deeti Vyas NORTH AMERICA + Cary Krosinsky James Salo RESEARCH ANALYST: Stefano Dell Aringa REPORT AUTHOR: Liesel van Ast The carbon intensity of Superannuation Funds varies widely. There is a 6% difference between the largest and smallest carbon footprints of Funds and an eightfold variation in effi ciency between individual portfolios. Funds with smaller carbon footprints are less exposed to carbon costs which are expected to escalate. The aggregated holdings of the portfolios analysed, valued at A$.6 billion, are 4% more carbon effi cient than the ASX 00 Index, at 57 tonnes of greenhouse gas emissions per A$ million of revenue. Of the aggregated portfolios within each investment style, Growth and Sustainability portfolios have the smallest carbon footprints. The Enhanced Index portfolios together have the largest carbon footprint and are most exposed to carbon costs. The carbon intensity of holdings in each sector varies between different investment styles, indicating variations in exposure to carbon risks. The report highlights opportunities to reduce the carbon footprints of investments. Portfolios can be carbon optimised to reduce their carbon intensity. This approach rebalances holdings to overweight carboneffi cient companies and underweight carbon-intensive companies relative to a benchmark. Trucost has carbon optimised the ASX 00 to reduce its carbon footprint by 4%. Keeping the stock universe constant and maintaining sector allocations, a portfolio s exposure to carbon liabilities can be reduced without sacrifi cing returns. Free fl oat adjusted holdings data as at March 008

2 Trucost Plc AIST CARBON COUNTS 008 The Australian Institute of Superannuation Trustees (AIST) commissioned Trucost to analyse the carbon footprints of Australian Superannuation Funds and portfolio investment managers. AIST is the fi rst independent professional body of its kind to commission a quantitative assessment of carbon risks across Australian Superannuation investment managers. Contents Page Introduction and project scope -6 Superannuation Fund carbon footprints 7 Distribution of portfolio carbon footprints 8-9 Carbon intensity by investment style 0-7 Managing portfolio carbon risk 8-0 Methodology Glossary Trucost research Trucost and the Australian Institute of Superannuation Trustees 4

3 007: The Trucost Carbon Footprint Ranking of UK Investment Funds INTRODUCTION Superannuation Funds need to understand the exposure of portfolio returns to the economic effects of climate change impacts, which could cut GDP by 4.8% by 00. They also need to understand how investments could be affected by regulations to control greenhouse gas emissions. As one of the hottest and driest continents on earth, Australia is set to be among the hardest hit by climate change. If greenhouse gas emissions continue to rise at current rates, temperature changes and water stress could cause Australia s agricultural production to substantially decline. The country s strong reliance on emissions-intensive energy resources, both for domestic consumption and export, makes it highly vulnerable to climate change impacts. Climate change could lead to falling global demand for agricultural, mining and manufactured commodities. The Australian market is particularly exposed to effects on exports, since it is dominated by Basic Resources industries including coal mining and aluminium and steel production. The draft Garnaut Climate Change Review predicts that failure to mitigate greenhouse gas emissions could result in climate change impacts that would lower the country s GDP by % by 05 compared with a world without climate change. GDP would fall by 4.8% in 00, which equates to GDP being approximately A$45 billion lower. However, early action to cut greenhouse gas emissions could reduce these risks and contain mitigation costs. The Australian Government has set a target to cut greenhouse gas emissions by 60% on 000 levels by 050. Australia will introduce an emissions trading scheme in 00 to help achieve the target. In line with many other countries, the scheme will introduce a carbon price to shift the economy towards low-carbon energy sources and energy-effi cient industries. Institutional investors with assets invested in the Australian equities market are exposed to the fi nancial effects of climate change on listed companies. As owners of major corporations, Superannuation Funds need to understand how the value of their investments could be affected by the physical impacts of climate change, as well as by Government regulations to control greenhouse gas emissions. Trustees will increasingly expect asset managers to identify portfolio holdings with the greatest fi nancial risk from carbon costs. AIST has taken the lead in identifying how Australia s Superannuation Funds and their external investment managers are positioned with respect to a policy framework that imposes the costs of greenhouse gas emissions on company balance sheets. Carbon Pollution Reduction Scheme to introduce carbon costs The proposed cap-and-trade scheme will limit greenhouse gas (GHG) emissions to create a direct carbon price for emissions from stationary energy, transport, industrial processes and waste, as well as for fugitive emissions from oil & gas production. Whereas the EU Emission Trading Scheme currently only regulates carbon dioxide, Australia s Carbon Pollution Reduction Scheme will cover all six greenhouse gases included under the UN Kyoto Protocol. Each greenhouse gas is measured as its carbon dioxide equivalents (CO e), based on its Global Warming Potential (see Methodology, page ). The cap-and-trade scheme will regulate about,000 facilities, each of which emits at least 5,000 tonnes of the six greenhouse gases covered by the Kyoto Draft Garnaut Climate Change Review, July 008, commissioned by Australian government bodies Carbon dioxide (CO ), methane (CH 4 ), nitrous oxide (N O), sulphur hexafl uoride (SF 6 ), hydrofl uorocarbons (HFCs) and perfl uorocarbons (PFCs), Green Paper on Australia s Carbon Pollution Reduction Scheme

4 Trucost Plc The effects of putting a price on carbon will be profound. Indeed, in its ability to change the economy over time, the Carbon Pollution Reduction Scheme is likely to be on par with past economic reforms such as the reduction in tariffs or deregulation of the fi nancial system. Placing a limit and a price on emissions will change the things we produce, the way we produce them, and the things we buy. Carbon Pollution Reduction Scheme, Green Paper, Australia Government Department of Climate Change, July 008 Protocol. Companies with operational control will need a permit or Australian Emissions Unit for each tonne of carbon dioxide equivalent (CO e) emissions. Although the cap-and-trade scheme design is yet to be fi nalised, the majority of permits are likely to be auctioned, with an expected carbon price of approximately A$0/tCO e in 00. To avoid extreme prices, the carbon price would be capped from 00- to Carbon costs will increase operating costs for companies directly covered by the scheme. Companies are likely to try to pass on carbon costs, driving up the price of goods. Most companies are likely to be affected by carbon costs passed on in electricity prices. The most emissions-intensive companies which may not be able to pass on carbon costs due to international competition could relocate emissions-intensive activities to other countries without carbon pricing. To avoid such carbon leakage, the Government plans to allocate up to 0% of carbon permits freely to emissions-intensive trade-exposed companies. Companies in sectors that emit more than,500-,000 tonnes of CO e/million dollars in revenue may be eligible for assistance. This is likely to be based on both direct emissions and indirect emissions from purchased electricity. Free permits would cover around 60% of emissions for trade-exposed industries that emit, tco e/a$ mn, and around 90% of emissions for activities with emissions intensities above,000 tco e/a$ mn. A preliminary analysis by the Department for Climate Change shows that industries emit more than,500 tonnes of CO e/a$ mn: Electricity supply, aluminium, beef cattle, cement and lime, sheep, dairy cattle, pigs, black coal, ceramic products, alumina, gas supply and iron and steel. However, the threshold will be based on industry-wide emissions from processes or activities, rather than from sectors. The Government wants to develop more robust emissions accounting for agriculture before including the sector under the scheme from 05. The other industries listed will be covered from 00, and are likely to include processes and activities that will be considered for assistance. Since the Australian market is dominated by emissions-intensive industries which produce traded goods, the free allocations of carbon permits could play an important role in limiting carbon costs at the scheme s start. However, protecting certain industries could increase the burden of emissions reductions on other businesses. Assistance will be reviewed every fi ve years, which would give trade exposed emissions-intensive industries time to reduce their carbon exposure, while allowing for carbon pricing to be developed in other countries. Carbon intensity indicates financial risk In the long term, the cap-and-trade scheme will change cost structures for all industries. As carbon costs are passed on, demand for certain goods may decline. The carbon profi les of companies will help determine which are most affected. Companies that rely heavily on carbon-intensive operations relative to sector peers could be most exposed to rising carbon costs. High emitters which are unable to pass on a large portion of carbon costs without losing market share to domestic competitors can expect their profi tability to fall signifi cantly. Used in most working assumptions by the Australian Government Department of Climate Change The currency used throughout this report is Australian dollars (A$). 4

5 EU carbon price rise hits power generator profits During the fi rst learning phase of the EU Emission Trading Scheme (EU ETS) from , over-allocation of carbon allowances led to a collapse in the carbon price. However, tighter caps on emissions in phase two from resulted in an average carbon price of 4/tCO (approximately A$40.74) during the fi rst six months of 008. As a result, carbon costs have increased for businesses. In particular, coal-dependent power generator RWE AG has had to purchase more allowances at a higher carbon price. The company s carbon costs amounted to 58 million (A$990 mn) during the fi rst six months of 008, up from 7 million (A$6 mn) during the same period in 007. This contributed to a 5% fall in earnings before interest, tax, depreciation and amortisation (EBITDA) and an 8% drop in operating profi ts during the fi rst half of 008. The Government identifi es the industries that are most likely to see profi t- ability and asset values decline as electricity generation, waste, and natural gas production and supply. To limit risks to investor returns, the Government plans to provide one-off limited assistance to existing coal-fi red electricity generators that compete with lower emission gas-fi red generators and zero carbon renewable energy providers. Companies that are less emissions-intensive than sector peers will not have to pass on the same level of carbon costs to customers and could gain market share. The carbon pricing framework could present opportunities for low-emission companies in carbon-intensive sectors. Companies with limited exposure to direct carbon costs, as well as to indirect costs passed on in input prices, stand to gain competitive advantage. The level of carbon prices will affect the materiality of carbon costs. This has been illustrated by the effect of a rising carbon price under the EU Emission Trading Scheme (see Box, EU carbon price rise hits power generator profi ts). Corporate carbon emissions are an important source of risk and opportunity at a portfolio level. The Australian cap-and-trade scheme aims to change the structure of the economy, with repercussions on investment returns. As the ETS seeks to provide a clear price signal to inform investment decisions, carbon costs will become increasingly fi nancially material to investors. Institutional investors will need to manage exposure to carbon costs and identify which companies will be well positioned under carbon constraints. Demand for standardised data on corporate greenhouse gas emissions is growing, to enable investors to integrate climate change criteria into investment analysis and decision-making. Carbon intensity will be factored into capital allocation decisions and asset valuations will take greater account of carbon performance. Portfolios comprised of companies which are carbon-effi cient relative to sector peers may be less exposed to carbon liabilities. Portfolios with small carbon footprints will be better placed during the transition to a low-carbon economy. Project scope Trucost analysed the carbon footprints of 4 of Australia s largest Superannuation Funds. Some 00 Australian listed equity portfolios were assessed 97 long-only investment portfolios, as well as three long-short portfolios. The analysis covers holdings valued at A$.6 billion, based on data as at March 008. This amounts to some % of the total value of assets in the Funds, refl ecting the general level of Fund allocation to the Australian market. The sample portfolios include domestic listed equities only, and represent most, but not all the Australian equity holdings of the participating Funds. To maintain the anonymity of Superannuation Funds and portfolio managers, Funds have been labelled A-N, and numbers are allocated to portfolios. The authors are grateful for the co-operation of the Superannuation Funds and their portfolio managers in providing holdings data. Unlike in the UK, there is currently no legislated requirement for managers in Australia to publicly report portfolio holdings. Portfolios were analysed where Trucost has corporate greenhouse gas emissions data on more than 80% of the value of the portfolio 5

6 Trucost Plc The portfolios have a variety of indices as their benchmarks. Trucost compared the portfolios with the carbon footprint of the ASX 00 Index, using free fl oat adjusted holdings data only. Trucost has also included carbon footprints of the MSCI Asia ex-japan, MSCI All World Developed, and MSCI Europe indices. Measuring footprints Trucost s method to calculate the carbon footprint of a portfolio has been applied to over 800 portfolios in the past fi ve years. Carbon footprints are based on standardised GHG emissions data and provide a comparable measure of the emissions associated with each portfolio. The long-only equity portfolio carbon footprint is calculated by measuring each constituent company s GHG emissions, including direct and fi rst-tier indirect emissions converted into their carbon dioxide equivalents (CO e). CO e emissions associated with a company are allocated to the portfolio in proportion to ownership. The carbon footprint is expressed as tonnes of CO e emitted by the companies within each portfolio per million dollars invested. The currency used throughout the report is Australian dollars (A$). How investors can use carbon footprints Using revenue to identify carbon intensity indicates the extent to which a company emits CO e to generate income. Trucost has previously been commissioned to measure the This measure is in line with the Australian climate policy carbon footprints of major pension funds including VicSuper, framework. Carbon footprints enable valid comparison the UK Environmental Agency Pension Fund and the French between companies and portfolios irrespective of size and Fonds de réserve pour les retraites (FRR). These funds investment style. The carbon emissions and revenues allocated to each long-only portfolio are summed up to calcu- use the carbon footprints as a quantitative assessment of portfolio carbon risk. late the total carbon footprint of each Superannuation Fund. Investors can use carbon footprints to monitor how climate risks in portfolios are managed, and to identify whether To calculate the carbon footprints of the long-short a company, portfolio or fund is more or less exposed to carbon costs than peers or benchmark indices. Superannuation revenue allocated to the short portfolio from that of the long portfolios, Trucost deducted the total carbon emissions and Funds can use carbon footprints to compare and contrast portfolio. Long-short portfolio carbon footprints are included carbon risk in portfolios. For example, environmental and in the overall ranking of portfolios, but are otherwise analysed separately from long-only portfolios. Trucost analysed carbon footprints support the Environmental Agency Pension Fund s Environmental Overlay Strategy (EOS), which the carbon footprints of portfolios according to seven investment styles: Growth,, Sustainability, Index, Enhanced requires investment managers to control fi nancially material environmental risks and opportunities including climate Index, Core and Small/Mid Caps. change. In this report, Trucost demonstrates how Superannuation Attribution analysis can identify the effects of sector Funds can minimise carbon risk by re-allocating investments to less carbon-intensive companies without affecting allocation and stock selection on carbon risk exposure in portfolios. This analysis can be used to report on how climate change is considered in the investment process, and the overall sector allocation, or style. Trucost has demonstrated how index or portfolio carbon performance can be to support engagement programmes. Trustees and asset managers can use carbon footprints optimised by re-weighting holdings on the basis of carbon to reduce carbon exposure without changing investment effi ciency, while maintaining sector allocations and fi nancial styles (see Carbon optimisation on page 9). returns. Trucost has constructed a carbon optimised version of the ASX 00 (see page 9). Emissions associated with the generation of electricity, logistics and other suppliers To fi nd out more about Trucost s methodology, see page Findings are not included in this report 6

7 SUPERANNUATION FUND CARBON FOOTPRINTS Trucost has ranked the 4 Superannuation Funds by their carbon footprints (see Table ). The ASX 00 has a carbon footprint of 70 tco e/a$ mn. Nine of the Funds are comprised of portfolios that are less carbon intensive than the ASX 00 Index. Fund C, which contains three analysed portfolios, has the smallest carbon footprint at 76 tco e for every million dollars invested. Fund D contains four equity portfolios and has the largest carbon footprint at 4 tco e/a$ mn. Fund C is 6% less carbon intensive than Fund D. As shown in Table, the average carbon footprint of the consolidated funds Table : Carbon footprint ranking of Superannuation Funds amounts to 57 tco e/a$ mn. The combined emissions of all holdings analysed in the 4 Superannuation Funds total 5,900,847 tco e. This equates to Superannuation Number of of portfolios Carbon Carbon Fund* portfolios analysed (A$ mn) footprint footprint.4% of Australia s 4 million tonnes analysed (tco e/ A$ mn) rank of carbon dioxide equivalent emissions in 006. C H I K L G** J ,4. 6, , The emissions associated with portfolio holdings amount to % of the total of 65,79,774 tco e emitted by the 6 companies analysed. This is in line with the Funds % ownership of the total market capitalisation of these companies, which amounts to N 7, Aggregated,58 billion as of March 008. If a carbon price of A$0 4 were ap- carbon plied to the 5.9 million tco e allocated footprint**, B ASX 00 E** M A F D** , ,44.5, to holdings in the portfolios analysed, carbon costs would amount to over A$8 million. This is equivalent to 0.7% of A$6.6 billion in revenue attributable to the Funds holdings in those companies. While overall carbon costs may appear small, they are unevenly distributed between Funds * Each Superannuation Fund is identifi ed by a letter to protect anonymity. Figures are and portfolios. For example, carbon rounded up. ** Figures exclude the long-short portfolios. costs would amount to 0.5% of revenue which could be allocated to a portfolio with a small carbon footprint in Fund I 5, and.% of revenue that can be allocated to a portfolio with a large carbon footprint in Fund K. 6 The Funds with large carbon footprints consist of portfolios that are most exposed to fi nancial risk from carbon costs. Free fl oat adjusted holdings data as at March 008 Tonnes of CO e per A$ million of revenue owned by the fund, in proportion to the value of holdings in each company Excluding 6.9 Mt CO e from land use change and 90. Mt CO e from agriculture 4 The price used in most illustrative modelling in the Carbon Pollution Reduction Scheme Green Paper 5 At a carbon price of A$0/tonne CO e, carbon costs total $86,7. Revenue apportioned to portfolio holdings amounts to over A$7 million 6 At a carbon price of $0/tonne CO e, carbon costs total $8,974. Revenue apportioned to portfolio holdings amounts to over A$9 mn 7

8 Trucost Plc DISTRIBUTION OF PORTFOLIO CARBON FOOTPRINTS Within each Superannuation Fund, the carbon footprints of the portfolios analysed also varies signifi cantly. The footprint of the most carbon-intensive portfolio is 7.5 times larger than that of the least carbon-intensive portfolio, refl ecting the range in carbon risk exposure. As shown in Chart, there is a cluster of 4 portfolios with a carbon footprint in the range of tonnes of carbon dioxide equivalent (CO e) per A$ million of revenue allocated to holdings. Only Fund H does not have a portfolio in this modal range. The investment style of the midrange portfolios break down as follows: 8 8 Core 7 Enhanced Index 5 Index Growth Small/Mid Cap. Chart : Carbon footprint distribution of portfolios Number of portfolios Carbon footprint tonnes COe/A$ mn The 0 least carbon-intensive portfolios and 0 most carbon-intensive portfolios are ranked in Table on page 9. The top 0 portfolios are more carbon effi cient than the MSCI Europe, MSCI All World Developed, and ASX 00 indices. Only three portfolios are more carbon-intensive than the MSCI Asia ex-japan Index. Securities in the ASX 00 Index emit more carbon per A$ million than securities in the MSCI Europe and MSCI AWD indices, but are more carbon effi cient than listings in the MSCI Asia ex-japan Index. The carbon footprint of the ASX 00 Index is 40% smaller than that of MSCI Asia ex-japan Index. This indicates opportunities to invest in relatively carbon-effi cient stocks in Australia. In particular, the average carbon footprint of companies in the Basic Resources sector in the ASX 00 is over one-third smaller than the carbon footprint of sector peers in the Asia ex-japan Index. Only the, Growth and Core investment styles are represented among the top and bottom 0 portfolios. The other investment styles deliver carbon 8

9 Portfolio Name Investment style Fund value (A$ mn) Carbon footprint (tco e/a$ mn) Rank (total = 00) footprints that are closer to the average. The investment style s variation in approaches to stock selections is illustrated I in the portfolios dominance of both M-7 Growth the top and bottom overall rankings (see K G page ). C J-5 Core Lowest/highest portfolios N-5 A- Growth The portfolios with the lowest carbon footprints tend to exclude investments in G-9 Core relatively carbon-intensive sectors. The L- Growth portfolio with the smallest carbon footprint MSCI Europe at 76 tco e/a$ mn (in Fund I) excludes the MSCI World 06.8 Oil & Gas and Utilities sectors. Fund K has ASX N- D- G (long/short) D- M-5 A-9 MSCI Asia ex-japan J-4 Core Growth the portfolio with the largest carbon footprint at 569 tco e/a$ mn. Companies in this portfolio have a higher carbon intensity than in any other portfolio analysed. The portfolio selects carbon-intensive stocks relative to the ASX 00 in the Basic Resources, Chemicals, Construction & Materials, Oil & Gas and Travel & Leisure sectors. G- B- K Top five portfolios Each of the fi ve most carbon-effi cient portfolios is in a different Fund. The top fi ve portfolios have several characteristics in Table : Portfolio ranking of lowest/ highest carbon footprints common: All the portfolios exclude the carbon-intensive Utilities and Construction & Materials sectors. Four of the portfolios have little or no holdings in the Chemicals sector. Each of the Funds has an underweight position in the Basic Resources sector (4-0% of the value of holdings) compared with the ASX00 (4%). Four of the portfolios have an overweight position in the Financial Services sector, compared with the ASX 00. Four portfolios have a investment style; the fi fth is a Growth portfolio. Bottom five portfolios The fi ve most carbon-intensive portfolios are in different Funds and use different benchmarks. Common characteristics for the portfolios include: 0.88% to.0% of the value of holdings is allocated to the Utilities sector. At least 5% of the value of holdings is in the Basic Resources sector, which contributes the most carbon emissions in each portfolio. On average, Basic Resources stocks selected in each portfolio are more carbon intensive than sector peers in the ASX 00. Bluescope Steel and BHP Billiton are among the top four contributors to each portfolio s carbon footprint. Four of the portfolios invest in Construction & Materials companies that have a higher average carbon intensity than sector peers in the ASX 00. A investment style is always employed. 9

10 Trucost Plc CARBON INTENSITY BY INVESTMENT STYLE Portfolios within each Fund have been categorised according to their investment styles: Growth,, Sustainability, Index, Enhanced Index, Core and Small/Mid Cap. The aggregated holdings by each investment style are ranked in Table. Table : Carbon footprint ranking of portfolio management styles* Style Number of portfolios Aggregated value of holdings (A$ mn) Aggregated carbon footprint (tco e/a$ mn) Sustainability Growth Core Small/Mid Caps ASX ,4.5 7, , Index Enhanced Index 6 4, , The average carbon footprint of aggregated Sustainability portfolios is almost onethird smaller than that of the combined Enhanced Index portfolios the most carbonintensive investment style analysed. * Excluding long-short equity portfolios. Figures are rounded up. Growth portfolios Twenty of the portfolios analysed have a Growth investment style, which favours stocks that have rapid earnings growth. These portfolios typically include pharmaceutical, technology and smaller companies, as well as recovery stocks. Trucost analysed the carbon footprints of the Growth portfolios, which have combined holdings in 4 companies. The combined Growth portfolio holdings have the second-smallest carbon footprint of the investment styles. The Growth portfolios are associated with emissions of 607,0 tco e. The aggregated carbon footprint of the Growth portfolio is 8% more carbon effi cient than the ASX 00, and 7% smaller than the carbon footprint of the combined portfolio holdings. Their relatively low carbon intensity refl ects the service-based and light manufacturing characteristics of most Growth stocks. Some 6% of the aggregated Growth portfolio is invested in the relatively carbon-effi cient Healthcare sector, compared with circa.6%-.7% in the Index, Enhanced Index, Core, and Sustainability portfolios. The overweight position of holdings in the Healthcare sector contributes to a positive sector allocation effect on carbon performance. While some % of the value of the Growth portfolios analysed is invested in the carbon-intensive Basic Resources sector, the stocks selected are generally carbon effi cient relative to the sector average in the ASX 00 Index. The six Growth portfolios with the lowest and highest carbon footprints are listed in Table 4 on page. The growth portfolio M-7 is the second most carbon-effi cient portfolio overall, with a carbon footprint of 0 tco e/a$ mn. It is over four times more carboneffi cient than the Growth portfolio with the largest carbon footprint, D-. The wide range in carbon performance refl ects the typically bottom-up approach used in 0

11 Table 4: Lowest/highest carbon footprint Growth portfolios Portfolio* Portfolio value (A$ mn) Most carbon-effi cient portfolios Carbon footprint (tco e/a$ mn) M-7 N-5 L- Aggregated Growth Most carbon-intensive portfolios Rank in investment style grouping Rank overall (total = 00) 7 0 this investment strategy, which results in diverse stock selections between portfolios. While M-7 invests in Oil & Gas and Basic Resources companies that are more carbon-intensive than stock selections in D-, the low-carbon portfolio excludes the carbon-intensive Utilities and Food & Beverage sectors. This results in a positive sector allocation effect in terms of carbon risk. J- K investment style D portfolios tend to focus on traditionally high-yielding stocks, which are * To maintain confi dentiality, Superannuation Funds are indicated by letters, and individual portfolios are identifi ed by numbers. Figures are rounded up. likely to have stable rather than rapid growth in sales and earnings. portfolios form the largest category of portfolios studied for this report. The value of holdings in portfolios invested in the style is A$9.85 billion. Twenty-nine of the portfolios are based on the ASX 00 or ASX 00 Accumulation indices, which include small cap stocks. The carbon footprint of consolidated holdings in 8 value companies is 66 tco e/a$ mn, which is 7% more carbon-intensive than the consolidated Growth portfolios, and just % more carbon effi cient than the ASX 00. Compared with Growth portfolios, a smaller proportion of the value of holdings is invested in the carbon-intensive Utilities, Basic Resources, Chemicals, Construction & Materials, and Oil & Gas sectors, while a larger portion is invested in relatively low-carbon Banks and Media companies. However, an overweight position of the consolidated value of holdings in the Food & Drink and Travel & Leisure sectors, compared with the Growth portfolios, contributes to their higher carbon intensity overall. Stocks selected in most sectors are on average more carbon-intensive than those in the Growth portfolios, particularly Table 5: Lowest/highest portfolios* in the Construction & Materials Portfolio and Travel & Leisure sectors. The Portfolio Carbon Rank in Rank overall value footprint investment (total = 00) same eight companies are included (A$ mn) (tco e/a$ mn) style among the top 0 contributors to the grouping carbon footprints of both the aggregated Most carbon-effi cient portfolios Growth and portfolios, in- I- K- G cluding BHP Billiton Plc, Rio Tinto Plc and Onesteel Ltd. The total amount of money invested in these carbon-intensive Most carbon-intensive portfolios companies, which have relatively Aggregated 65.6 low price/earnings ratios, is larger in the portfolio. However, both investment styles allocate approximately G B % of the value of holdings to these K companies. * Ex-long-short portfolios. Figures are rounded up.

12 Trucost Plc Nine of the 0 outliers that are either the most carbon effi cient or most carbon-intensive portfolios have a investment style. portfolios have the greatest difference (87%) in carbon performance between the top and bottom carbon footprints, compared with other investment styles. This refl ects the variety of investment strategies within the category, including passive-neutral and active alpha tilts. Although the K- portfolio is the most carbon-intensive portfolio analysed in this study, it contributes just % of total carbon dioxide equivalent emissions to Fund K. This is because Fund K includes 0 portfolios, and of these, the value of holdings in K- is relatively small. Portfolio holdings are associated with 0,949 tco e emissions, while a total of. million tco e are emitted by holdings in Fund K. The three most carbon-effi cient portfolios exclude the Utilities, Oil & Gas and Construction & Materials sectors, and holdings are underweight in the Basic Resources sector. Long-short portfolios The only long-short equity portfolio ranked among the bottom 0 portfolios overall has a investment style ( G in Table 6). Trucost calculated the carbon intensity of the long and short portfolios separately, and then subtracted the short portfolio carbon footprint from the long portfolio carbon footprint to identify the net carbon footprint of the long-short portfolio. From an environmental perspective, a portfolio should be long more carbon-effi cient companies and short more carbon-intensive companies. The most carbon-intensive long-short portfolio invests A$88 million in long positions and just A$4 million in short positions. The portfolio with long positions has holdings in 00 companies with a combined carbon footprint of 486 tco e/ A$ mn. The short-only portfolio has holdings in 4 companies, with a far higher aggregated carbon footprint of 544 tco e/a$ mn (not included in the overall ranking). The portfolio therefore shorts more carbon-intensive companies. Only one of the three long-short portfolios (E) has short positions in companies that are more carbon-effi cient than those held in its long-only portfolio. Two of the long-short portfolios employ Core investment styles. Table 6: Carbon footprint ranking of long-short portfolios Portfolio Name Carbon footprint (tco e/ A$ mn) Rank in investment style grouping Rank overall (total = 00) Core D (long-short) Fund D Long Fund D Short Core E (long-short) Fund E Long Fund E Short G (long-short) Fund G Long Fund G Short * Figures are rounded up.

13 Sustainability The carbon footprints of Sustainability portfolios vary widely, reflecting diverse approaches to implementing environmental, social and governance criteria that go beyond climate change impacts. Two Funds contain Sustainability or SRI portfolios. The two Sustainability portfolios analysed comprise holdings valued at $76 million and have the smallest aggregated carbon footprint, at 8 tco e/a$ mn. However, one of the SRI portfolios has a carbon footprint of 404 tco e/a$ mn. The carbon footprint of the most carbon-effi cient Sustainability portfolio analysed is 47 tco e/a$ mn. This is almost a 40% more carbon effi cient than the other portfolio. The divergence in the two Sustainability portfolios carbon footprints ranked 4th and 75th is representative of Trucost s wider fi ndings from SRI portfolio carbon footprints. The majority of SRI portfolios analysed by Trucost have low carbon footprints. There is no single defi nition of Sustainability in investment terms, and different fund managers have different interpretations of how to apply it within their portfolios. A catch all approach could include criteria on the environment, governance, ethics, labour standards, social equity, and compliance with international norms, refl ecting the wider evolution of the sustainability agenda. Sustainable investments typically employ best-in-class, negative screening or positive screening approaches. Best-in-class or best-of-sector strategies select companies within index sectors based on their performance against environmental, social or governance criteria. Negative screening excludes companies involved in negative activities such as tobacco or logging, while positive screening selects solution providers which deliver products or services that generate environmental/social benefi ts. For example, water engineering and recycling industries of the future. Where climate change is included among environmental criteria, stock selection may focus on clean technologies or renewable energy developers. Screening reduces the diversifi cation of stocks and increases the risk to portfolio returns relative to the underlying index. Only a limited amount of assets in Superannuation Funds can therefore be allocated to positively or negatively screened portfolios. Most sustainability portfolios in Australia employ the best-inclass/best-of-sector overlay. Since operations to develop environmental solutions generate greenhouse gas emissions, these production processes are exposed to carbon costs which will be applied across industrial sectors and energy users under the planned emission trading scheme. This analysis therefore takes account of greenhouse gas emissions in all industries, regardless of the effects of products in use. Carbon savings from clean technologies and renewable energy are accounted for in the carbon footprints of companies that use them. Similarly, emissions from fossil fuels produced by Oil & Gas companies are included in the carbon footprints of companies that use the fuels. This avoids double-counting of downstream emissions. Some companies may claim to reduce their climate change impacts through carbon offsets, where they invest in projects such as tree planting to offset emissions from operations. However, unregulated carbon offsets may not deliver meaningful reductions and will not reduce exposure to carbon costs under the planned emission trading scheme. Both of the Sustainability portfolios analysed select carbon-effi cient Utilities stocks relative to the ASX 00, but invest in relatively carbon-intensive Oil & Gas

14 Trucost Plc Table 7: Lowest/highest Sustainability portfolios and Basic Resources stocks. The carbon outperformance of I- is partly due to the underweight position Portfolio Portfolio Carbon Rank overall of the portfolio s holdings in the Basic Resources sector, compared with E- (4.5% compared with.7%). value footprint (total = 00) (A$ mn) (tco e/a$ mn) Portfolio E- is benchmarked against the S&P/ASX I- Aggregated Sustainability E Accumulation Index, while the more carbon-effi - cient I- uses a modifi ed version of this index. The value of I- holdings is overweight in the relatively low-carbon Industrial Goods & Services and * Figures are rounded up. Real Estate sectors, compared with E-. On average, Basic Resources, Chemicals and Utilities stocks in I- are more carbon intensive than stocks selected in E-. However, the lower-carbon portfolio selects more carbon-effi cient stocks in the Oil & Gas and Retail sectors. Index Table 8: Lowest/highest Index portfolios* Portfolio Benchmark index Most carbon-effi cient portfolios I-6 ASX 00 Accumulation K-7 S&P ASX 00 I- ASX 00 Accumulation Most carbon-intensive portfolios K-8 ASX 00 Accumulation ASX 00 Aggregated Index A- ASX00 D-5 ASX00 Four of the Superannuation Funds have provided data for their Australian Indexed equity portfolios, constructed to track the performance of their index benchmarks. A total of A$4.7 billion is invested in 0 companies in six Index portfolios. Index portfolios have an aggregated carbon footprint almost identical to that of the ASX 00, at 70 tco e/a$ mn. The portfolios use three different benchmarks the ASX 00, ASX 00 and S&P/ASX 00 Accumulation Index, which takes account of both price movement and dividends. The clustering of the carbon footprints of portfolios benchmarked against the ASX 00 Accumulation Index around tco e/a$ mn refl ects the passive management style to track the performance of the index. The Index portfolios are ranked in Table 8. The portfolios which use the ASX00 or ASX 00 Accumulation Index as a benchmark emit less than 70 tco e/a$ mn. The most carbon-intensive Index portfolios are benchmarked against the ASX 00 Index. Portfolio D-5, which has the ASX 00 as its benchmark, has a signifi cantly larger carbon footprint of 4 tco e/a$ mn. Holdings in D-5 are overweight in the Utilities, Basic Resources and Oil & Gas sectors, compared to the portfolio s benchmark. Portfolio Carbon Rank in Rank overall value footprint investment (total = 00) (A$ mn) (tco e/a$ mn) style Trucost has grouping demonstrated how carbon risk can be ,590.5, reduced in index portfolios by rebalancing the weightings of securities relative to their benchmark to reduce the Index carbon footprint (see page 9) * Figures are rounded up. The number of unique companies, which more than one portfolio may invest in 4

15 Enhanced Index The Funds include Enhanced Index portfolios that aim to track an index, but also use different strategies to seek fi nancial outperformance. Holdings may only include selected securities from each sector in the underlying index, for instance. The Enhanced Index portfolios include holdings in 0 companies. Holdings have a combined carbon footprint of 97 tco e/a$ mn the most carbon-intensive of the investment styles analysed. However, the carbon footprint is just 6.7% more carbon intensive than that of the aggregated Index portfolio holdings, refl ecting the similarity in investment strategies. There is little variation in the sector allocations of the Index and Enhanced Index aggregated holdings. However, on average, the Enhanced Index portfolios select more carbon-intensive Basic Resources, Construction & Materials, Oil & Gas and Utilities stocks. Although there is a tendency for larger capitalised companies to be more carbon-intensive, the most carbon-effi cient Enhanced Index portfolio, B-5, is benchmarked against the S&P/ASX 00 Accumulation Index, which covers largecap and mid-cap stocks (see Table 9). The most carbon-intensive portfolio, F-, is benchmarked against the ASX 00 Accumulation Index, which includes small cap stocks. There is a 9% difference in the carbon effi ciency of these portfolios due to both sector allocation and stock selection effects. Compared with the value of holdings in B-5, F- holdings have an overweight position in the Basic Resources and Oil & Gas sectors. The negative effect of these sector allocations on carbon performance is compounded by the selection of more carbon-intensive stocks in these sectors. Table 9: Lowest/highest Enhanced Index portfolios Portfolio Benchmark index Portfolio value (A$ mn) Carbon footprint (tco e/a$ mn) Rank in investment style grouping Rank overall (total = 00) Most carbon-effi cient portfolios B-5 ASX 00 Accumulation A-8 S&P ASX E- ASX 00 Accumulation Most carbon-intensive portfolios Aggregated Enhanced Index A-7 ASX A-6 ASX F- ASX 00 Accumulation * Figures are rounded up. Core portfolios The majority of the value of Core portfolios typically tracks an index, and the remaining portfolio value is invested in satellite investment classes specialist actively managed funds or individual securities. The value of holdings invested in Core portfolios amounts to A$7 billion the second largest asset allocation in the Funds. Trucost analysed some 5

16 Trucost Plc Table 0: Lowest/highest Core portfolios* 9 companies to calculate the carbon effi ciency of Core portfolios. Their aggregated carbon footprint is 4 tco Portfolio Portfolio Carbon Rank in Rank overall e/ value footprint investment (total = 00) (A$ mn) (tco A$ mn, the third lightest of the investment styles. e/a$ mn) style grouping Most carbon-effi cient portfolios The Core portfolios analysed J-5 G-9 I-6 Aggregated Core are benchmarked against the ASX 00, ASX 00 accumulation, or ASX 00 accumulation indices. The carbon footprint of the aggregated holdings is Most carbon-intensive portfolios slightly more effi cient (7.6%) than the ASX 00. This carbon outperformance M is likely to refl ect the actively managed K components of the portfolios, which N may include small cap stocks with a * Excludes long-short portfolios. Figures are rounded up. low correlation to indexed holdings. The large variation between the smallest and largest carbon footprints of Core portfolios is second only to the spread of the carbon performance of the and Growth portfolios, respectively. The 60% difference between the most and least carbon-effi cient portfolios invested in the Core style is likely to be driven by portfolio manager stock picking in the actively managed portion of the portfolio, where variation in appetite for risk and alpha generation results in broader diversifi cation of stocks than Index or Enhanced Index investment styles. Small/Mid Cap portfolios Small/Mid Capitalisation portfolios invest in stocks with typically higher growth rates than companies with large capitalisations. Trucost analysed three portfolios consisting of a total of 4 small/mid cap companies. Their combined value of holdings is A$6 million. The aggregated carbon footprint of the portfolios is 59 tco e/a$ mn.8% more carbon effi cient than the ASX 00. Small/Mid Cap portfolios rank slightly above the median of overall portfolios on carbon performance. The portfolios exclude the Utilities sector, which is dominated by carbon-intensive electricity, gas or water utilities fi rms. Small/Mid Cap portfolio holdings are underweight in Basic Resources relative to the ASX 00 index, which includes large cap companies in the sector such as Rio Tinto, BHP Billiton and Bluescope Steel. Circa 5% of the value of Small/Mid Cap holdings is invested in Basic Resources stocks, compared with 4% in the ASX 00. Table : Lowest/highest Small/Mid Cap portfolios* Portfolio holdings in the Travel & Leisure, Food Portfolio Portfolio Carbon Rank overall & Beverage and Oil & Gas sectors are more carbon value footprint (total = 00) effi cient than sector peers in the ASX 00. However, (A$ million) (tco e/a$ mn) limited diversifi cation in the Small/Mid Cap investment style can increase exposure to carbon risks within K specifi c sectors. Within the three portfolios, this Aggregated effect is particularly evident in the Chemicals sector, Small/Mid Cap 59.6 G where stocks are 50% more carbon intensive than B * Figures are rounded up. 6

17 Chart : Average carbon footprint by super sector and investment style Carbon Footprint tco e/$a mn,500,000,500,000,500, Basic Resources Chemicals Construction & Materials sector peers in the ASX 00. There is just 0.7% difference between the smallest and largest carbon footprints of Small/Mid Cap portfolios. Their clustered carbon performance refl ects similar investment strategies all three of the Small/Mid Cap portfolios have 70% of their value benchmarked against the S&P/ASX Mid Cap 50 Accumulation Index and 0% against the S&P/ASX Small Ordinaries Accumulation Index. Variation in carbon intensity of stock selections by investment style Trucost has analysed variations in the average carbon intensity of stocks selected in each Industry Classifi cation Benchmark (ICB) super sector according to each investment style (see Chart ). The analysis focuses on several sectors to be covered by the proposed emission trading scheme stationary energy (including power generators and construction companies), fugitive emissions (including Oil & Gas producers), industrial processes and transport. The carbon intensity of stock selections in different sectors varies between the investment styles, indicating differences in exposure to carbon costs. The difference in carbon performance is most marked in the Chemicals and Utilities sectors. However, portfolios in each investment style select Utilities stocks that are more carbon-effi cient than the average for sector peers in the ASX 00 Index. Growth portfolios in the Superannuation Funds select the most carbon-intensive stocks in the Utilities sector, but effi cient stocks in the other sectors. The portfolios select carbon-intensive Chemicals and Industrial Goods & Services stocks. Sustainability portfolios are most exposed to carbon costs in the Oil & Gas sector, compared with the other investment styles. They select the most carbon-effi cient stocks in the Chemicals sector. Index portfolios, as is to be expected, are not especially over-exposed to any one sector. Enhanced Index portfolios select carbon-intensive ASX00 Growth stocks in the Basic Resources and Construction Core Small/Mid Caps & Materials sectors. Index Despite their relatively Enhanced Index Sustainability small aggregated carbon footprint, Core portfolios select relatively carbonintensive stocks in the Utilities, Travel & Leisure and Oil & Gas sectors. The Small/Mid Cap portfolios exclude the Utilities sector, but select stocks that are signifi cantly more carbon intensive and Industrial Good Oil & Gas Travel & Leisure Utilities exposed to carbon costs in & Services the Chemicals sector. 7