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‘Simplistic’ portfolio decarbonisation risks failure on climate change

Commonly used carbon metrics may not help institutional investors reduce global carbon emissions, a UK ESG investment manager has argued.

Metrics such as carbon emissions and carbon intensity, when applied to sectors such as utilities, might reduce the capital available for the development of cleaner energy, Ecofin said.

In a research paper produced in association with Carbon Analytics, Ecofin’s head of research Deirdre Cooper said that a focus on these carbon metrics “intrinsically incorporates significant sector bias and could lead unwittingly to underinvestment in the highly carbon-intensive power generation sector at a time when increased investment in clean generation and electrification of transportation is most necessary”.

This is “completely at odds with the underlying decarbonisation philosophy,” she continued.

Carbon emissions and carbon intensity are valuable indicators of a portfolio’s attributes, but produce “simplistic” decarbonisation strategies, Cooper argued.

Speaking to IPE, she said that pension fund trustees wanting to decarbonise their portfolios needed to know what their goals are – be it achieving an impact or seeking protection from ‘stranded asset’ risk – and make sure that the decarbonisation methodology they were considering meets those aims.

“If it isn’t you probably shouldn’t be doing it,” she said. “The key point is ‘please don’t take the easy option’.”

She acknowledged there was an appreciation in the investment industry that existing decarbonisation tools were not perfect, but said that despite efforts to develop better methodologies many products were still based on these imperfect tools.

In the research paper, Ecofin said it was “a concern” that applying typical carbon footprint metrics to a portfolio “would imply significant divestment from utilities”, as this would not contribute towards emission reductions even though the portfolio’s carbon intensity would be lower.

Instead, when looking at the power generation sector, investors should compare the generation mix and carbon emissions per unit of electricity produced by each investee company to that of the grid in which they sit, argued the investment manager.

Applying this methodology would allow investors to divert capital to cleaner power generators and can drive engagement with companies “to maximise the impact on decarbonisation”, according to Ecofin. 

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