by Sevva, on 25 January 2022
20 minute read


 

If we don’t take drastic action now to save our planet and reform our society, then our children will experience a much more dangerous and volatile world than the one we grew up in. If we don’t make the required changes then it is probable that our children’s standard of living, wellbeing and life expectancy will be lower than ours. That has never happened in human history. 

I set up All Street to contribute to drive a systemic change to a more sustainable financial system. 

We strongly believe that you can’t change a system without changing yourself. Following our principles and commitment towards planet and people, we initiated this project to bring together brilliant women and men that are leading climate change efforts from within the financial industry. The project follows the guidelines of Theory U, as a Theory of Change.

Our report is entitled “Voice of the Financial Industry”. It consists of 10 chapters summarising the participants’ contributions across key topics in sustainability, together with 30 individual profiles providing a deep dive into the conversations I had with each investment leader.

These fantastic contributions from each of the participants have enabled us to put together the below list of 10 no-nonsense recommendations to the financial industry on what we need to do for a more sustainable planet. 

I hope you enjoy the report.


Emanuela Vartolomei I Founder & CEO, All Street

 
Recommendations for the financial industry

1. Prepare for a 2c world

The majority of financial institutions think global temperature rises will be above 2c. At this level of global warming, developing countries will experience severe climate change, loss of farmland, and urban disruption. Supply chains from these countries will not function as they do today. The planet’s natural capital will be eroded, damaging ecosystems with consequences that we can’t even predict. Many cities in developed countries will face existential threats. The financial system is already aware that above 2c is the base scenario. All financial institutions need to start reallocating capital according to this base scenario. The quicker climate risk is priced into capital markets the better. Go to section here.

2. Build adaptation into your portfolios

Financial institutions need to start factoring climate adaptation into capital allocation decisions. They need processes in place to assess which governments, corporations, projects and real estate assets have adaptation plans in place. For their part corporations and project sponsors need to initiate climate adaptation plans. Just as importantly they need to start disclosing to the market what they are doing to adapt. Go to section here.

3. There are many solutions to climate change. Get behind them all.

No room for purists here, let’s go for as many solutions as possible. Here are just some examples. (1) Carbon Capture technology. Yes, the feasibility is still uncertain and the technology is early stage. But Bill Gates is right. VCs and corporations which make the right investments in this technology will be handsomely rewarded. (2) Carbon Taxes. Financial institutions will be able to allocate capital to cleaner industries if governments start to tax the dirty ones, and cushion the blow for people who need it. (3) Carbon Trading. Yes, paying for previous pollution isn’t ideal, but we can’t eliminate dirty industries overnight. We need to get “polluter pays” systems right so that negative externalities are properly priced in. (4) Carbon targets. Our own data shows that 45,000 listed companies globally still aren’t taking any action on climate change, let alone committing to net zero. That is not acceptable and financial institutions need to push for that to change. Go to section here.

4. You need to take account of more fiduciaries, including planet and society

Asset owners now expect a mix of financial return and commitment to proper environmental, social and governance (ESG) principles. These changes in investors’ duties and in financial system regulation are not occurring in a vacuum. Policymakers, regulators and governments recognise that issues such as climate change and sustainable development represent systemic risks and opportunities that require explicit and targeted interventions. Go to section here.

5. You need to actively engage with companies

There is a “tough road” of responsibility ahead. The role of the financial sector needs to go beyond allocating capital. The sector should recognise its own strength as a powerful block of global capital that can accelerate solutions to the big global problems. Every financial institution needs to set up a department that can call up and engage with companies regarding their commitment to ESG. Go to section here.

6. It doesn’t make sense for you to divest stranded assets

Stranded assets and brown industries are better off in the hands of regulated entities with detailed transition plans that are subject to investor scrutiny. That way we can be confident that these assets and business models are being managed in a transparent and accountable way. We can know that they are changing, in the direction that we all want. Go to section here.

7. Focus on companies’ positive contributions, don’t just blindly apply exclusion lists

The definition of sustainability in the investment world is changing. You can’t just wish away today’s brown industries, and you can’t change today’s consumer behaviours overnight. Investors need to engage with problem assets. It is also worth remembering that ESG stands for much more than just the Environment. It also stands for Social and Governance behaviour and best practice. It can encompass such things as gender equality, diversity, health and well- being, innovation, and business compliance and processes. Corporate sustainability should reflect the transition path and goals that enable companies to change what they are today. Those companies that are making the greatest efforts to change should be applauded. Go to section here.

8. Perform comprehensive sustainability assessments, don’t just focus on carbon targets

It is now clear that sustainability is a systemic challenge for our planet, all sustainability metrics are interlinked with each other, and we won’t save the planet by only thinking about GHGs. The sophistication of ESG tools used for companies’ assessment is increasing. Companies are expected to report using more comprehensive frameworks such as the United Nations Sustainable Development Goals (SDGs). Those companies which incorporate the SDGs into their corporate strategy are more likely to have a long term sustainable business model and hence be a more attractive investment proposition in the capital markets. Go to section here.

9. Pay attention to emerging markets companies, they are forging ahead in ESG

Whilst multinational corporations clearly promote institutional development in emerging markets, it is local companies that will play the central role in corporate implementation of the SDGs. The World Economic Forum at Davos 2020 highlighted an investment opportunity of $12 trillion across emerging markets to help achieve the SDGs. Our own analysis finds that almost across the board that adoption of SDGs was higher in percentage terms in EM companies than in Advanced Economy companies. Not only are EM companies leading the way, but companies in the Developing bracket are catching up with Advanced Economy companies in terms of their ESG footprint. Go to section here.

10. Use your clout to push governments to take action to prepare for a 2c world

Financial institutions cannot take all of the responsibility for fixing the planet’s problems, governments need to step up too. Most of the world’s populations lives in cities, and cities will become migration magnets as climate change hits developing countries. Governments must provide new infrastructure, bring in legislation and start to nudge consumer behaviour. As an organisation based in London, we call on Prime Minister Boris Johnson to seriously upgrade, and then educate the public about, the UK’s own climate adaptation plan, and on Mayor Sadiq Khan to do likewise for London. Go to section here.

Prepare for a 2c world

Is 1.5 degrees of warming a realistic target for 2050 and will we get there?


Most think that 2c or more is where we will end up…
Based on the current trajectory we are “unlikely to stay below 1.5 degrees” by 2050 says Robert Fernandez. We want to be hopeful and believe it can be achieved but climate scientists say there is “no chance” of hitting the target. The projections of 2.0, 2.4 or 2.7 mean nothing unless policies move from the theoretical to the concrete. If they remain “blah blah” fine words, some may assume “it’s heading towards four degrees”. Mark Ledger-Beadell says targets won’t be met as long as the financial sector is “ticking boxes rather than doing things”. He says funds badged as positive impact may have little real impact. Dramatic changes are inevitable on present trends, says Julia Groves. Populations will migrate to more moderate climates though the UK might be “akin to California”, and that should be managed for their benefit. We are all going to be more self-sufficient and “learn how to live on less”.

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Johanna Raynal says if CO2 emissions continue unchecked, there will be major collapses and changes in the climate for countries and communities. Her hope is that it will be quick enough to force us to react, but slow enough that we’ll be able to “stop and change the curve and start fixing what's broken”. The Climate Action Tracker is disturbing to Clémence Chatelin, as it shows that “we’re heading towards three or four degrees if we don’t do enough”. There could be huge migrations from regions that become uninhabitable, and more pandemics. She says past COPOs have changed little as emissions continue to increase. By 2100 it will be “very problematic to live here, unfortunately”. Sasha Njagulj has been listening to scientists and says we can’t stop change or preserve our current way of life. Some small islands would disappear and some places become uninhabitable. For her “it’s about how we can survive as a species together with all the other species and that is what we need to work on”.

It will take food shortages and migrations to hold politicians to account and wake up the world, says Simon Greenwell. Meanwhile the major power blocs are dragging their feet on legislation. He says that sadly without a sea change in their policies “we are heading to 2.5 degrees by 2050 or 2060”. Rupert Davies is “forever an optimist” and says protecting biodiversity and natural capital are now on the agenda and the methane commitments and carbon sink agreements are significant. He says the 1.5 target must be aimed for though “maybe two degrees is more likely”.

Lee Coates believes we will be at two degrees, though his heart says that over the next five years “there will be a sea-change and people will create enough room for changes to be made”. Companies will start to adapt seriously once the effects of climate change start to be felt across more sectors, says Julia Wittenberg. Then technology could accelerate the transition because the human response “all happens much quicker than regulation”.

Agnes Neher says we won’t be on the 1.5 path, but should be able to limit it to two degrees or a bit more. She is becoming more sceptical in some areas but says positive people will continue to drive change, and “for me the glass is still half full”. Even if we don’t hit the 1.5 degree target, we will survive extreme weather conditions and life will be tolerable in many countries, says Patrick O’Hara. He pins hope on the international community and on the next generation of business leaders making better decisions and says he’s “optimistic in the sense that I think developed countries will adapt”.

Andrew Parry says “we're deluding ourselves that we’re on track for 1.5 one and a half degrees, that chart vividly shows that we need incredibly precipitous action to achieve that. So I think we have to be thinking now not just about the mitigating actions, but the adaptation that the world is going to have to go through. There are going to be some outcomes that could surprise all of us.

…But some do think we will get to the 1.5c target

The 1.5 degree target is demanding, says Zehrid Osmani. A faster transition will require huge efforts and rapid breakthroughs in innovation, but he believes capital will flow towards helping government, corporates and consumers reduce their carbon footprint and meet the cost of greener energy for poorer parts of the globe. But Zehrid is an optimist, because “we never want to bet against human ingenuity”. There is no global government to dictate measures like phasing out coal, Will Oulton says, so frustrating as it is we just have to deal with the politics of making change happen. We’re not moving fast enough today, he admits, yet he likes to think that will change and his “glass is three-quarters full”. Timothée Jaulin sees “quite a few encouraging signals out there” including ambitious regulations within the EU, the Sustainable Development Goals, and the willingness of the private sector to hit net zero targets. Laina Draeger believes a pathway “towards two degrees or even 1.5” is achievable, though getting buy-in for a just transition to net zero by 2030 will be a huge challenge. She sees an ongoing conversion of companies to science-based targets and says “there is no option but to be optimistic”. We will get there by 2050, says Jonas Persson, because the world is full of smart people who can make things happen. We need to feel we can make a massive difference and there are so many positive people “who really do think we can make a change together”.

Her firm is raising expectations of its investee companies to align their targets with 1.5 degree outcomes, says Jodie Tapscott. She believes COP-26 has sparked a “very different sense of positivity” and after returning from Glasgow she says “yes, I think we are going to make it and I'm very optimistic about the future”. Lauren Krause says of the target: “I think we’ll get close to it.” She says recent US climate events have created “an outcry and a momentum” which she believes can harness the human capital and power needed to get there.

Should companies mitigate or adapt to climate change?


The new normal
At present, companies are finding it easier to mitigate, our participants generally agree. But in future, if they don’t start to adapt, climate events could be a nasty wake-up call, says Andrew Parry. He says if the transition curve continues to head for two degrees or higher, the mindset will have to change. Recent storms and heatwaves in North America have given us a foretaste of the unpleasant devastation that could sadly be needed to force companies to move into adaptation mode “because it won’t happen voluntarily.” Businesses must accept climate-related events as the new normal, says Paul Lee because “the chances of 1.5 have probably gone”. He cites the US but also the floods in northern Europe and China and says any business that ignores such omens is “fooling itself and wasting investors’ money”.

Will Oulton agrees, noting that there is “not much scientific doubt” that even 1.5 degrees will trigger extreme weather conditions and the need to deal with with physical risks. Although only around 5% of global GHG emissions come from Africa, for example, it’s those countries that will suffer the most from climate change, says Johanna Raynal, which means the need for businesses to react is even more urgent. In thinking about physical risks most businesses have yet to move beyond simply insuring against financial impact, Ivo Dimov suggests. They may also be operating in regions where weather projections have been less dramatic so action appears less urgent. Ivo says these projections need to be publicised more clearly and honestly.


Corporate responses
So how are companies reacting?  Some are talking in their sustainability reports about physical risk but the language is loose, says Laina Draeger, showing they “don't have a clear grasp” on the risks. Robert Sternthal says that apart from in specific areas, adaptation is “not yet visible” investors.

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In the S&P 500, adaptation planning is going on behind the scenes, according to Timothée Jaulin. He says it’s easier to communicate carbon numbers than small activities like adjusting insurances or planning relocations. He believes much planning is still under the radar and expects to see “more communication in the near future”.

Zehrid Osmani says scenario planning is already taking place for the effects of forced migrations due to rising temperatures and sea levels, and reveals that some companies’ estimates of population displacement are “staggering”.

Robert Fernandez notes that US municipalities are now embedding climate risks into their capital planning for water systems. But businesses in general are opting to mitigate because it is cheaper, easier and less disruptive, says Austen Robilliard. He notes that carbon offsetting and targeting net zero makes it “easy to carry on as normal and plant some trees” rather than analysing the supply chain for ways of investing in more sustainable operations. He says that won’t change as long we allow the focus on “headline carbon numbers” to obscure the need for change. Sasha Njagulj says the main change in real estate is looking how fast or how often events might happen adjusting the underwriting accordingly. Buildings can’t be looked at in isolation, and her firm monitors city risk using a mapping website to track city initiatives, though asset managers “don’t really have much influence on what a city does to make itself more resilient”.

Avoiding negative signals
Assessments are being made “behind the scenes” in the real estate sector, says Emily Hamilton, perhaps because of the effect that more public predictions might have on portfolio valuations. She calls it a “big transparency issue”. Clémence Chatelin says corporates are reluctant to “speak the truth” about the need to adapt as it might be seen as a negative signal. She says companies are mitigating because to go down the adaptation road would look like “an admission failure”, whereas investors like to see business as usual. But short-termism at the top can be to blame, when CEOs may be in post for only five years and are happy to leave it their successor. She says “a lot more honesty” is called for.

Investor attitudes
Such honesty is needed by investors, says Will Oulton, who will need better data to be able to nudge companies from mitigation to adaptation. He says the disclosures on mitigation, while flawed, are at quite a high level, whereas on adaptation “hardly any companies” are producing information. Investors should get behind trade-offs such as companies’ dispersing their factories to spread their disaster risks , says Zehrid Osmani, by recognising that immediate cost rises are needed to ensure long-term sustainability.

When it comes to corporate transactions, the impact of global warming on a business’s future prospects is as yet “nowhere” on financiers’ radar, says Mark Ledger-Beadell. He says that could be partly due to the more short-termist Anglo-Saxon investment culture, whereas in Germany or Japan investors might be thinking further ahead. Banks too have been concerned only with mitigation policies when grafting ESG onto client funding structures, says Jonas Persson. But he says building in adaptation strategies is now “certainly on our agenda”, because flooding and droughts would begin to unsettle populations and creating “tension and potentially conflict”. Lauren Krause says adapting single buildings in a region vulnerable to climate events was meaningful and important, but even better would be for those same companies to “get together and put all their efforts behind mitigation of overall emissions” rather than accept a worsening climate scenario.

solutions to climate change

From taxation to targets to technology, what are the solutions to climate change that can be adopted by investors and corporations?


Taxation
According to Andrew Parry, the private sector is assumed to have all the answers but governments have to set a framework and spend taxation revenues to do it. Less than 3% of post-Covid recovery money went on climate related spending, and everybody wants to tackle climate change until it comes out of their back pocket. But without incentives capital will be attracted to the wrong things. Zehrid Osmani asserts that we need a mix of incentives plus regulation. Taxation on higher polluters has to be increased to incentivise them to reduce their cost base with innovative solutions. A ‘Tobin tax’ on foreign currency trading could end mass poverty, says Lee Coates. Likewise corporation tax could be linked to carbon emissions. If fossil fuel companies had to pay 99 per cent of their profits into a carbon fund, capital would soon go elsewhere.  Sasha Njagulj believes that a carbon tax and carbon credits is the only way to level the playing-field across all industries. “If I was president of the planet I would introduce it as a silver bullet,” she says, emphasising that this is her personal view.

Harmonising standards and data
The industry’s ESG data is subjective, patchy, out of date and unstructured, according to Will Oulton.  Capital flow away from carbon intensive sectors and into more solution-orientated businesses will be speeded up by the new regulatory drive to tighten up standards, which will mitigate greenwashing. Jodie Tapscott believes that the evolution of taxonomies around the world is a positive development because we know that regulations are a very powerful tool for driving capital flows, investment allocations and product development in investment.

Realistic targets
There is no point in government giving industry a target such as no new internal combustion engines by 2030, for instance, unless it has agreement from the private sector that it can create the infrastructure and the products to make it a reality, says Simon Greenwell. He also believes that an index of climate change adoption could rank countries by how successfully or seriously they are investing and innovating in areas such as renewals, grid upgrades, and heavy industry adaptation. Supporting the view that there is an ongoing role for government backed infrastructure, Rupert Davies is of view that electric vehicle revolution can’t happen without the charging infrastructure, and if people are faced with queueing for hours to charge up.

HOW SEVVA CAN HELP

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Technologies
We need disincentives and incentives, and an aggressive acceleration of existing technologies, and as they scale unit costs fall so that spurs more innovation in areas like storage. That opens up the path to infinite renewable energy by 2030, says Andrew Parry. He goes on to say that we should change our attitudes to nuclear, despite its problems, now that we have the Modular Reactor. Objectors must understand the science, while politicians should understand both sides of the debate. Paul Lee is sceptical of carbon capture technologies. There is no proven carbon capture technology of any scale other than the natural world around us, and unfortunately we're moving the natural world in the reverse rather than positive direction right now.  Raju Kamath is of the view that looking after the soil is a vital strategy and a more certain win than a drastic curtailing of fuel sources and personal freedoms.

Financial incentives
Lee Coates believes that we need a small carrot and a large stick in the form of potential financial losses for companies. More needs to be made of people standing to be hurt financially if we carry on as we are, including small investors in their ISAs. If you put their money in the firing line it focuses people’s attention. Julia Wittenberg thinks we need regulation, but we also need enforcement. We need environmental agencies to be able to fine companies on some of these issues, and it's not happening enough.  The right government policies are crucial.  An good example, according to Jonas Persson, is offshore wind in the UK which opened the floodgates for funding, enabling economies of scale to be rolled out. That can be replicated  in many other technologies around the globe, and making it a just transition not one benefiting 1% of the population.  Paul Lee cites the importance of clarity and certainty on the price of carbon, alongside a trajectory for decarbonising, will unlock the investment needed for the opportunities that exist.

Investor power
It’s up to the big institutions who hold large chunks of companies to take a lead and start voting against boards which fail to take fast enough actions, says Chris Ling. Rupert Davies thinks technologies are key and the first is carbon capture, but there is a lack of political support to scale it up. The companies who have the resources to do it should be supported, whoever they are.  But Patrick O’Hara cautions that carbon storage is not a solution if it’s only being developed to protect the fossil fuel industry from an uncertain future and protect us from an inconvenient transition. US municipalities are embedding climate risks into their capital planning for water systems. But the private sector can do so much. Larry Fink, the CEO of Blackrock, has said he believes the next 1,000 unicorns will all be involved in climate technology, notes Robert Fernandez.

Jodie Tapscott thinks investors can act as matchmakers so that companies can work within and across their supply chains to help solve each other’s problems. Solutions breakthroughs will come from 50 to 100 companies, and investors will make a ton of money “even though 50% of these technologies may or may not work,” says Robert Sternthal. Within real estate companies need to share knowledge around how to make buildings more efficient, embracing innovation, materials, technologies and data collection, according to Lauren Krause.

Consumer behaviour
Patrick O’Hara thinks we all need to change our lifestyle, and step back from our throwaway consumer society. But corporates can help by limiting our choices more than they do, and governments can encourage us to consume more sustainably. Johanna Raynal feels that as long as we measure our success with the growth of GDP there won't be a change because we can’t build our societies around growing consumption and using more resources all the time. We need to start consuming less. Clémence Chatelin takes the view that better awareness and changed consumer behaviour will be needed. Unfortunately the over-50s is a generation that has been told several times that the world was going to end, and it didn’t. 

We need to take a step back and think about what we want to achieve as a global society in the future.  Do we really need to fly as much? Will it make us happy to have that third car in our garage? How much is too much? We need to think about happiness in a different way, because it's been taught so pervasively for the last 50 years, that happiness comes from accumulating wealth and having more and it's just not sustainable overall as a philosophy for our civilization. These are some of the relevant consumer behaviours identified by Brunno Maradei.

Agnes Neher is somewhat sceptical of consumer change. People don't want to hear that they face restrictions on their way of life, and politicians are reluctant to tell them. If people are given the choice whether they have to give up something or not, they will want to keep what they have. But being realistic there is bound to be interplay between politics, society and the economy. The UN should say all the countries of the world will increase taxation by 2 per cent to create a contingency fund, which will be used to construct underground bunkers for those who survive, and euthanasia clinics for those who cannot, says Lee Coates. That should concentrate minds to speed up change and improve our chances.

Corporate culture
Younger employees have new motivations, they want to see that a company is doing the right things for their generation, so corporates have to change themselves to address that properly. By being responsive and not just ticking boxes they will attract the right quality of staff, and that applies to pretty much all industries, according to Mark Ledger-Beadell.

Intermediate organisations
There is a role for an independent policy advocacy firm or an NGO that can work between government and industry regulators and private companies to develop regulations and decarbonisation roadmaps for heavy industries to follow, thinks Jodie Tapscott. There aren't enough experts with experience in developing sustainability strategy and implementing that across the industries that need it so there's a key role for intermediary organisations.  

New money
Emily Hamilton believes in her personal view that the big multinationals are today’s private families that have lots of wealth. We need them to help fund a rewiring of the economy so that buildings can be all-electric ideally with green rooves. 

Mandatory disclosures
If only 1.2% of companies actually make meaningful climate disclosures, we must need more centralised action to enforce this, as it's not going to work if only a minority of people do something, points out Clémence Chatelin. 

Transport investment
According to Bob Bartell, governments must make it more feasible for people to commute by public transport, unlike in New York where there has never been a train connection from the airport or into the primary work district of Manhattan. 

Emerging markets
Chris Ling thinks we could get relatively quick wins helping emerging market countries who want to lower their CO2 emissions but can't for whatever reasons, by funding partnerships. One start-up is seeking funding for solar and wind farms in Morocco linked to the UK by underwater cable.

New fiduciary duties

Does the role of the financial sector go beyond allocating capital?


The private sector is not the government
The financial sector operates in a framework set by government and cannot replace it, says Andrew Parry. He says over recent decades we have seen a progressive outsourcing not just of functions but of governance itself, and people now expect the investment management community to set roles and behaviours for society. He asks “isn’t that what we vote our politicians in and out for?” and says we can’t assume that the financial will replace the governance of state institutions. One handicap is that despite improvements in linking corporate management incentives to longer timeframes, our system is not built to handle long-term thinking, says Brunno Maradei, which shows “the limitations of what the financial industry can do”.

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Lobbying for change
That doesn’t mean investors can’t run ahead of policymakers, which they often do, says Rupert Davies. It’s investors who have better climate disclosures from oil and gas companies, he says, by “knocking corporate doors for decades getting them to do better”. Allocating capital must go hand in hand with holding corporates to account for sustainability, issuing dedicated or green bonds, and pushing for better disclosure. Powerful institutional shareholders such as the big passive investment houses should set the example in prodding laggards or backward companies, according to Chris Ling. They can initiate calls for change and vote against directors or CEOs of companies which are too short-termist, he says.

Will Oulton says the industry in the past has allowed itself to be content with processes rather than asking companies about desired and actual outcomes. But he now sees a quite rapid evolution away from “just accepting an explanation of process.”He says the sector should recognise its own strength as a powerful block of global capital that can accelerate solutions to the big global problems.

It’s not there yet, according to Agnes Neher. She says a cold hard look at what the industry has so far achieved shows that “the actual impact on the problem is minimal… we’re not really putting it into practice yet”. Raju Kamath however notes that small investors cannot exercise any influence. He says the climate science is not conclusive yet decisions with massive implications for the globe are being mooted. He believes “the market is better at solving problems than a priestly caste”.

Harmonising standards is critical
Robert Fernandez says investors must have a credible ESG assessment process which incorporates all new information, and has to continue efforts to improve the disclosure regime and support what is now the ISSB. The industry should step up efforts to harmonise standards because otherwise the presence of competing boards or bodies leaves too much room for greenwashing, says Liam Price. Weak standards can allow funds to claim they are a great impact when they are not, so “we need a gold standard”. Without a common standard for terms like ‘ethical’, every company or fund manager is applying its own definition, says Austen Robilliard. The industry needs to come together and agree on what ESG or impact or sustainable means, he says, because otherwise any company can be deemed ‘sustainable’ if an investor just believes it will be around in the future. But there is a mixed picture in the quality of investment houses’ ESG processes, says Patrick O’Hara. He says it’s partly because “the industry is not prepared. There are still plenty of institutions out there that don't have very much ESG capability at all, and that needs to change.”

A wider economic role
The financial community has another role, that of helping a younger generation battling economic headwinds, says Julia Groves. Young people may have debt and be unable to get on the property ladder, as well as facing uncertainties over their future working lives in an age of automation. Investing should not be the preserve of the wealthy, Julia says, and it was “a big responsibility for the financial services industry” to educate people in the potential of investing as a source of future income.

Corporate Engagement

What responsibilities does business have beyond the tracking of its carbon footprint?


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Encouraging trends
There is a growing willingness among companies to engage on wider issues, many participants agreed, including in emerging markets.  Asset managers like Aegon are focusing on areas such as modern slavery, child labour, and health and safety, says Brunno Maradei, while pension funds are now engaging on issues such as plastic pollution and taxation, according to Patrick O’Hara. Brunno says that momentum is being helped by investable companies which are “disruptors making that agenda core to what they do”.

Robert Fernandez, whose firm invests only in S&P 500 companies, says the purpose of a company is now “to promote an economy that serves all Americans”, according to a recent forum of leading CEOs, which showed there was “a new movement, growing stronger”. 

Coffee retailers now work with their growers and farmers, to help them operate more sustainably, while many retailers and restaurants are now paying a living wage and creating better career opportunities. Robert says corporate philanthropy plays a huge role, with major companies supporting education or healthcare in their communities, and sometimes designating a percentage of revenues to their efforts. Companies have realised that they cannot only act short term, and not care about the longer term consequences and impact of their operations, says Johanna Raynal. That’s because “if they destroy their social licence” they won't have the support they depend on from their employees, their community, and their infrastructure.

Limits and targets have to be set
But businesses can or should only do so much, many participants cautioned. Robert Sternthal observes that corporates are inevitably driven by the economics, such as financial savings from moving to greener energy. Impact funds are “meant to be green, but they invest in things that make money”. Corporate philanthropy funded from excess profits was to be applauded, but it’s “unrealistic to put all the pressure on businesses alone, this is a society” according to Austen Robilliard. Julia Wittenberg says this reminds us that every company should probably not be expected to address “every single aspect covered by the SDGs”.

Julia Groves says the key is to “think more locally”. When a CEO is just trying to get through Covid, trying to keep people in work, dealing with their logistics problems, they’re going to start at home, she says. Most companies may not be able target world poverty “but they can think about their communities, the local food banks, and whether they pay their interns”. A company’s concerns may align well with their business – poverty and food banks for food companies, climate risk for energy companies – because with 17 SDGs “they can't do them all.”

Ivo Dimov believes business can be most effective when the social objectives are aligned to their core business.  So if a food giant can work out how to deliver accessible food to “a whole new segment of customers”, it is helping to alleviate poverty and hunger but in a commercial framework. Those two factors together can create longer-term impacts, alongside philanthropy.

In the real estate sector, the sustainable cities SDG is a natural fit, says Emily Hamilton, especially as inequality around affordable housing is linked indirectly to the SDG of eradicating poverty. Her firm targets six SDGs while recognising that “whatever we do on one will have an impact on another”.

Room to improve
Julia Wittenberg observes that there can be a “communication gap” between investors and companies, when for some companies ESG concerns are embedded in their strategy and operations, rather than being separately identified. Other companies might limit their interpretation of good governance to plain good management.

But not all large businesses are doing enough of the obvious things, according to Bob Bartell. Restaurants should provide recycling bins, manufacturers should try harder to minimise plastics in packaging, more shops should tell you to bring your own bag or coffee mug – and be rewarded with customer loyalty, Bob says. He also reminds that small businesses find it harder to do the right things when they don’t have the resources and may be “living payroll to payroll”. Companies can take wider actions. Bob would like to see travel companies making travellers aware of their individual carbon footprints, providing personal readouts of their impact each trip or each year. He believes this would prompt small behaviour changes because “if you give employees knowledge, most will do the responsible thing” – though it would have a knock-on effect on the economy.

For Ivo Dimov, the new generation of employees will be a big positive influence. They have “a very different view on who they want to work for” and what kind of companies and leaders they want to join, and are changing the traditional employer-employee relationship.

Give shareholders the choice
Campaigner Lee Coates is clear that companies should not be asked by society to take responsibility for social issues. But what he does suggest is that pass the challenge back to their shareholders. Rather like ticking the box for rounding up the pennies in your purchase for charity, shareholders could be invited to gift say 1p per share of the declared dividend back to the company, for use in fighting poverty or inequality. Lee says the company could encourage a positive response by “showing the expected child deaths from either option”. 

Managing versus divesting

Should divestment be a principal tool for managers?


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Views are polarised
To divest or not. This is the area where views tend to be polarised between immediate exit and patient capital, according to Jonas Persson.  He says that in some industries, there is clearly a transition in progress, and says “it's called a transition for a reason, it's not called a switch”.   He says investors have to be smart about the best ways of influencing and accelerating a good transition from the bad old technologies to the new investable ones. 

But Agnes Neher says that in this transition, investors need to see beyond the fine words and good intentions and move to zero tolerance of “those that don't really mean it”.

Julia Groves says fuller disclosures would push investors towards divesting. If the numbers were too high, it was “the job of investors to say I’m not giving you the money”. 

In real estate, owners of buildings that are currently high impact cannot just wash their hands of them, says Emily Hamilton. Divesting rather the upgrading would probably be a last resort as “we have to find a way to fix them”.

It doesn’t work
According to Brunno Maradei, campaigns of divestment don’t really work. In tobacco, he says, neither divesting nor engaging has essentially made a lot of difference. What has worked is bans on advertising, limits on marketing, and hikes in price, “and that has come from regulations”. For others, the strategy of divestment is a zero sum game. There is a clear distinction between a company’s existing share capital and any new funding, says Paul Lee. If by divesting you are simply transferring your assets to another buyer in the public markets, all you may be achieving is “a warm and cosy feeling”. Clémence Chatelin agrees, “because although sticking it to the big guy can make you feel good, the overall impact is negligible”, while Liam Price sees it as “important not to lose your power, especially if you believe in this”.

Leave it to the market?
Laina Draeger would rather leave the allocations to financial metrics, which will “naturally see capital attracted towards the most attractive companies”. Her firm generally believes in the broadest opportunity set, but understands that divestment comes into play for some investors when they feel they need to make their voices heard. But many institutions divest only because their measurement tools are too blunt, says Patrick O’Hara. He says it is often because too many institutions “don't have very much ESG capability at all, and that needs to change”.

Julia Wittenberg says her firm’s ESG screening already excludes certain industries, but when conditions change in others there is no quick fix. Engagement will become increasingly influential, she believes, as will European regulation. Unsustainable companies will have a stronger light shone on them, giving investors the chance to engage and have an impact. 

Other firms set firm criteria for divesting. Timothée Jaulin for instance, in a nod to COP-26, says his firm will only continue to invest in companies exposed to coal assets where there they have plans “to gradually phase out from coal – not phase down”.

Identifying the bad guys
When big ‘dirty’ companies are also the ones leading investment into the new technologies such as carbon capture, it would be “crazy” to abandon them, says Rupert Davies. He says they are the players with the resources and infrastructure to roll out badly needed solutions, so divesting from them would be “unproductive”. 

Ivo Dimov says it is no simple task to identify unwanted industries, and it takes “intellectual effort” to make judgements that are not simplistic. For instance oil and gas are needed to make plastics, so is that another black mark against fossil fuel energy? Not necessarily, as although plastic waste is the scourge of our ecosystems, plastics also enable us to preserve food and build lightweight cars and planes which use less fuel.   He says it will be very difficult to cut loose industries which are linked to other industries that as a global society we value highly.

Divestment risks stranding not just the primary producers but the whole ecosystem of businesses dependent on them, which would mean finding alternative livelihoods for  “millions, if not close to a billion people”.

Engagement not exclusion

How should the investment industry address corporations’ transition plans?


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Supporting transition
All players seem united on the need for constructive management of assets that may or may not end up stranded. It is often a key part of engagement strategy, says Jodie Tapscott. Her firm has an ESG Improvers fund to work with less well-rated companies, and says it’s all about creating “a soft landing”.

She suggests that investors will support restructurings which close or spin off assets into separate companies, if it simplifies business models and offers more transparency, enabling capital to flow to old tech businesses investing in new tech assets. Without that, we would be risking “economic shocks”, she says.

Where assets which fall foul of ESG portfolio screening are still held in broad unconstrained portfolios, they shouldn’t be treated as static and stranded, says Austen Robilliard. “We cannot ask companies to adapt and then starve them of capital.”

Winners and losers
But Andrew Parry says engagement can’t be used as “a fig leaf for inaction” because investors “can't make a bad business model into a good one”. He says there’s no point in engaging for its own sake with a business that is heading for oblivion, as that would just mean “distraught clients losing money”. So the middle road is to identify those businesses that can make it through the transition. The fossil fuel companies with reserves that are more costly to extract are “likely to be stranded first”, says Patrick O’Hara, while others are less vulnerable and need to be viewed by investors over a 10 or 15 year timeframe. Some businesses are in dying markets and are more susceptible to new government policy or regulation, says Julia Groves. She foresees “changes whereby suddenly your assets significantly drop in value”, and says that despite managers’ best efforts “there is going to be money lost”. For Laina Draeger the challenge is to identify those companies which will emerge as leaders in the new low carbon economy, and those determined to stay in the old economy and “ride it till the end”.

Questions of ownership
Brunno Maradei wants to know who will manage all the stranded assets if we simply ring-fence them, and reminds that being a shareholder or bondholder involves a “tough road” of responsibility. But according to Paul Lee, companies will either decide they have the skills to make a transition or they don’t, and it is perfectly rational for the “zombie companies” to be held in the private market, not the public ones. Private equity, after all, likes businesses being run for cash. The danger is that this culture squeezes essential investment in these assets, for maintenance or rehabilitation, but this is not a reason to hang onto them, Paul says. Some businesses can’t change, “and we need to be honest about reality”. Robert Fernandez however says problematic assets “should remain on public company balance sheets”. It’s then the investor’s job to examine the company’s ESG ratings and strategy, and decide whether management has set a realistic pathway, with incentives linked to decarbonisation goals, to reach “where it intends to be in the future”.

Stranded buildings
The property sector faces the challenge of stranded buildings, whether they are eco-friendly or not, says Emily Hamilton. Motorway-based logistics may be booming now, but will they forever? If not, because we may start distributing products differently, we need to build differently too. There are already models, Emily says, in buildings that can be dismantled and reconstructed elsewhere.  The industry has its own EU-funded carbon risk monitor, which sets levels for the desired carbon footprint of any type of building, and a pathway towards them. For Sasha Njagulj, there is no alternative but to work at fixing the existing building stock because 80 to 90 per cent of it will still be here in 2050. She says the secret of achieving sustainability is “transforming brown assets into green assets”.  Lauren Krause says companies will gradually identify assets that are in locations vulnerable to climate change where adaptation may be ineffective. When that starts to happen, they will question “how much money will we put into saving a particular region that will likely continue to be impacted by climate-related events?” At the point they will also have to recognise their wider impact on communities and possible social responsibilities.

Defining Sustainability

What does the investment industry consider to be sustainable investments?


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Drilling down into ESG
There is widespread agreement that the ‘E’ of ESG is the easiest to account for in the search for sustainable investments. But it’s still a work in progress. Carbon accounting will be a key tool, says Agnes Neher, but she admits that scopes one and two are difficult enough while “on scope three there’s no chance”. She says companies need “a quantitative basic” on which to anchor future strategies, while investors also want a “qualitative check” to understand how the company meets its ESG challenges.

Social accounting remains the holy grail. Collecting data is the first potential obstacle, says Brunno Maradei, when for instance racial and ethnic diversity questions are not allowed in all European jurisdictions. As an active manager, he stresses that sustainability assessments will always need “a human element and a human judgement”.

Once investors drill down into large company activities, they have to check whether a disclosed carbon footprinting number applies across all its activities or not – which means “understanding the entire value chain”, says Timothée Jaulin. This holds equally for social and governance impacts. Julia Groves says “sustainability with a big S” should include areas like the top to bottom pay ratio and zero hours contracts, which would only become more socially sensitive. Lauren Krause says sustainability goes beyond carbon emissions to considering the impacts on where and how people are living as the physical and natural environment changes. She says the human aspect “has to be front and centre when we're thinking about environmental intervention”.

The search for objective data
Fund selectors looking for independent models incorporating agreed ESG criteria will draw a blank, comments Austen Robilliard, who says there is “no one-stop shop available from a credible source”. So his firm has built its own model which features positive screening for companies which actively allocate capital to areas such as climate change solutions, education, healthcare, and charitable donations, backed up by ‘hardwired’ legal pledges. Liam Price too says digging out objective data is difficult, and welcomes the arrival of SFDR and EU taxonomy. He says “one standardised set of rules” will have a major impact how the investment industry operates. 

When selecting funds for clients, Clémence Chatelin’s firm uses quant or index funds run by large houses, but ensures they are signed up to the stewardship code and take engagement seriously. Although the bulk of the firm’s clients are not asking for differentiated funds, it was important to satisfy those “who are demanding a more sustainable way of doing business”, and the SFDR taxonomy followed by one from the FCA would affect the way funds were chosen in future. Carbon accounting provides hard numbers, but that isn’t really possible anywhere else in ESG assessment, says Paul Lee. He says investors inevitably have to rely on subjective views in difficult areas and crying out for “some sort of objectivity in the system”. The TCFD (Task Force on Climate-Related Financial Disclosures) is bedded in, but other models such as the TNFD (Taskforce on Nature-related Financial Disclosures) has not yet been subjected to robust challenge.

Box-ticking and greenwashing
Existing ESG assessment models can lend themselves to box-ticking and greenwashing, according to many participants. Mark Ledger-Beadell says private equity in particular does not yet look beyond complying with a process, and is not yet recognising any alternative bottom line. He “can’t remember one” cross-border corporate transaction where ESG was raised as an issue. Good disclosure and good practice may not always go together, warns Julia Groves. Some companies were committed to transparency but not necessarily to meaningful improvements, while others might be best in class without having got round to telling anyone. She says smaller companies in particular deserved credit for giving resources to disclosure but cautions that “we are still in a greenwash period”. Andrew Parry says companies who are devoting capital to climate adaptation or mitigation are the ones having positive impacts, passive funds may have portfolios full of companies which are not.  He warns that many companies will virtue signal through “use of language” while doing little.  For Raju Kamath, companies are conforming to the prescriptions laid down but how genuinely committed they are to the ESG agenda “I'm more sceptical about”.

The UN framework
There is qualified support for the usefulness of the Sustainable Development Goals.  Rupert Davies says they mix up political goals like peace and justice with investable areas like climate action, marine life and hunger. He  worries that the SDGs are “very susceptible for greenwashing”. But Zehrid Osmani believes companies could probably take a wider view than they do of the relevance of SDGs to their business. He cites gender equality, which many corporates are yet to bring fully into their culture, and biodiversity, which lends itself to charitable funding and support for employee involvement in local projects. He says companies face social exploitation risks, even if they appear far away up the supply chain. If any of those are exploiting their workforce, it could rebound on the brand and the reputation. 

Investor perspectives
Ivo Dimov says big investors have to scrutinise the longevity of the current strategy of a business, and whether a 1.5 degree trajectory will leave it with stranded products that nobody wants any more.  He says it’s bound to be difficult to link social impact to financial value. Investors should look “a strong focus and belief from the top of a business” that its social connections really mattered.  Small investors need to hold their providers, whoever they are, to account and press for more enlightened choices, says Lee Coates. He believes this can be a major force for change in making the industry more open and transparent. The thresholds for sustainability are changing, Paul Lee points out. In future businesses that are now marginal will look competitive, and those which appear profitable will be seen as long-term losers. Investors can look through the current imbalance to some extent “but not entirely”.  Robert Sternthal says it can “drive you nuts” trying to measure sustainability once you start looking up and down the supply chain. He says it’s a huge issue not having standardised metrics and “we’re a long way away from that”.

Emerging Markets

Do we need to assess sustainability in emerging markets differently?


Taking responsibility
Developing economies need to use up resources in order to grow. How can that be squared with limiting growth and who will pay?  Lee Coates says mature economies have a responsibility to help emerging ones battle climate change “because we started it, I think we owe a bit”. But he says the only way is the capitalist one, where the private sector has profit incentives to invest, otherwise it’s charity. Without help, developing nations will fall behind and it will “take a lot longer for them to catch up”, says Liam Price. We have to be prepared to compromise “and certainly not wag the finger and tell them they can’t do what we did”, according to Agnes Neher.  Developed countries have huge responsibility to help them meet the twin objectives of improvement and growth, and if coal is currently their cheapest energy source “we can’t say please stop now”.

The energy transition
Those nations understandably see their own fossil fuel reserves as a mainstay of future growth, but that’s only because of today’s pricing, Andrew Parry points out. If the move to renewable energy picks up pace and it becomes more scalable, “we will drive down its marginal cost and make it competitive”.
But meantime the bill for a decarbonised economy has to be footed, and we can’t expect emerging markets to underwrite it. Simon Greenwell says that will need political will inside the developed world to see it as “a necessity not a nice-to-do”.

The social challenges
On social issues as well as climate ones, engagement is a “key battleground”, says Patrick O’Hara. Companies may need to make a leap to cleaner energy, and they may need to tackle modern slavery or child labour in their supply chains. They won’t necessarily “be asking you in for tea and biscuits” to chat about them, Patrick says, adding that some western businesses are not always welcoming either. There is also a wide spread of behaviour within industries and within regions, just as in developed markets, according to Laina Draeger. She says emerging markets have spawned companies blazing a trail in responding to the climate challenge, alongside those more resistant to change. She also believes China, despite its apparent enthusiasm for coal, is now focusing on sustainability issues, and is at least on a path to tougher regulation.

Big companies with multinational operations can lead the way by transferring their own environmental and social standards onto their supply chain companies, says Johanna Raynal, so that “smaller and smaller companies” can achieve best practice. Foreign direct investment by private equity into Africa, for instance, needed to have an ESG management system which reached into all sizes of business.

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Investor opportunity
At fund selection level, the quality of ESG data is a problem, but it’s not just emerging markets which are hard to assess, according to Austen Robilliard. He points out that selectors looking for UK-based funds with a purely ESG or ethical mandate for the US market have only one to choose from.

Active investors can find plenty of south-east Asian companies making climate commitments, as well as “small caps who come up with amazing solutions” in areas such as water treatment, says Rupert Davies.

Investors also need to mitigate risks over governance because, as Bob Bartell puts it, there are “businesses where there may be a little bit more concern over the right way to do things”. He says safe legal and financial frameworks, rather than anti-bribery and anti-corruption mandates, are the way to attract investment.

But smaller companies in developing markets offer great opportunities, says Julia Wittenberg. They are more nimble than big multinationals, can skip stages of development and apply new technologies differently. Investors do also need a financial framework which helps to solve the problems of “who is going to pay for this transition”.

 
COP26 in the rear view mirror

What progress was made at COP26 and what was missing?


The role of capital
COP26 saw a new recognition of the central role that must be played by the private sector, by the big financial players, by capital. Jonas Persson says “the dynamics are changing” and business and finance are now rightly seen as being at the forefront. The transition and particularly its acceleration won’t be achieved without capital behind it, and COP26 was an important part of connecting different industry groups and stakeholders. Even midmarket funds are now being asked about ESG, says Robert Sternthal, and COP26 added to the pressure and the momentum of the industry buy-in.  The event saw an “intense mobilisation” of the financial community as a whole, believes Timothée Jaulin. He points to the Glasgow Finance Alliance for Net Zero as being important signals in terms of closing what he calls the financing gap. But he also notes the policy gap between announced intentions and actual implementation within different jurisdictions. The conference also showed that “we need to be quite transparent on the fact that we are not on track”. Lauren Krause says the event helped raise awareness in the real estate industry of “the nuances of what climate change means scenario planning”.

The carbon market
Progress on the carbon market was welcomed but there was also a belief that it was not radical enough.

Jodie Tapscott was excited about the agreement and final drafting of Article Six of the Paris Agreement, establishing a central UN mechanism to trade credits. The market would now evolve as carbon offsets and pricing adjusted to the Newmarket mechanisms. She noted that there had been significant corporate lobbying for a carbon tax, suggesting that corporates knew that a new pricing of the externalities of carbon emissions was needed to speed up the transition away from coal and incentivise the drive into new fuels such as green hydrogen. There was a wide recognition from participants that COP26 did not deliver more certainty on carbon pricing. Paul Lee says we need to know that businesses with a lower carbon impact on the world will not be undercut by those with a high carbon impact, whose ability to pollute the world is subsidised. Without that clarity “you risk losing money rather than making money”.

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The blue economy
A call for a new focus on vital area – the ‘blue economy’ - comes from Will Oulton. He says the oceans play a critical role in our climate and its management, with plant life sometimes even more effective than forests in absorbing the CO2. Yet destruction of the marine environment continues seemingly unnoticed. Will says the issues of decarbonisation and net zero were rightly at the centre of debate in Glasgow but hopes that this critical marine part of the natural defence against climate “will post COP26 become part of the narrative”.

Expectations vs Reality
There were some unrealistic expectations around the event, it was admitted by some. The big players were never going to come up with magic solutions to the complex problems, not least because “everybody will always act in their own self-interest”, according to Austen Robilliard. He says countries will tend to continue doing what suits them, albeit within any limits set by new bits of legislation, and it should be remembered that “economics always wins”. For Chris Ling, it was no surprise that developing countries like India were not rushing to sign up to scrapping fossil fuels, as they might well say to developed economies “it’s our chance now to do what you did”.  What was missing, for Clémence Chatelin, was coordinated action across all nations to produce a concrete action plan that would bind them all.

Commitments
Patrick O’Hara welcomes the commitment on deforestation but warns that it will be hard to enforce because much activity is already illegal.  He also sums up the view of many on the central importance of realistic carbon pricing, saying “that’s when the maths change” and business models are seen in a new light.  COP26 did create the new ISSB, the international sustainability standards board under the IFRS foundation banner, bringing together previous bodies. That, for Paul Lee, offers the chance of a “solid and consistent global framework”. But he notes that while the UK has clearly committed to it, others have yet to do so.

The Last Word


All Street is a leading financial technology company redefining sustainability research through the application of artificial intelligence.  Our AI platform Sevva provides automated real time sustainability ratings and brings hyper-scale to sustainability assessment.

Our vision is to help transform the financial system. By engaging with leaders who already driving change from within the industry, we can play our part in pushing for systemic change.

Our Theory of Change is based on Theory U.  Humanity has made enormous scientific and economic advances over the last few centuries. But we are increasingly aware that this has come with significant ecological and social cost. Building upon two decades of action research at MIT, the Theory U process shows how individuals, teams, organisations and large systems can build the essential leadership capacities needed to address the root causes of today’s social, environmental, and spiritual challenges.

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