Mandate terms can help get investors to achieve their net-zero targets

Imagine walking into the office one morning and learning that the CEO just made a commitment to cut your investment organisation’s greenhouse gas emissions to zero over the next 30 years, in net terms, publicly and completely by surprise. 

We know from anecdotal evidence that this is not hypothetical – this sequence of events has occurred at a notable institutional investor that will remain anonymous. Many others can relate to this circumstance though, because there is no obvious plan for investors to reach net-zero emissions – even when the announcement is planned in advance. It is overwhelming and begs the question, “how are we going to achieve this?”.

People around the world, and the planet itself, depend on investors answering this question. The answers will have wide ramifications, affecting assumptions about the shape of future returns, data and formulae for modelling risk, methods of engaging with portfolio companies, and internal governance processes. 

One part of the answer will involve thinking harder about who exactly is going to get it done. Institutional investors are not going to meet their net-zero commitments alone. 

Asset managers can only achieve net-zero carbon emissions when all of their client contracts document this priority. And, with a few exceptions, pension investors, insurers, sovereign wealth funds, central banks, endowments, and other asset owners access the markets through asset managers. 

Shared responsibilities, like achieving net zero, entail strong relationships, and the mandate contracts between asset owners and asset managers are the instruments for creating them. For example, Amsterdam-based Kempen Capital Management made a commitment to net zero in December 2020. The firm has existing products consistent with this commitment, such as its Global Impact Pool, a fund with the mission of positively contributing “to solving global problems around the food, water and climate nexus”. 

But the climate was not the original focus of Kempen’s relationship with the client that seeded this fund. The relationship originated with a mandate focused on producing long-term returns generally, and it was that mandate that created the opportunity for Kempen to divert the focus to climate considerations.

Matthew Leatherman

Matthew Leatherman: “for investors, reducing carbon emissions is a shared, long-term commitment”

The mandate terms that enabled this opportunity to emerge can seem unremarkable, belying such a pioneering investment in climate responsibility. One element was the fee structure, where former CIO Lars Dijkstra has stated that the firm agreed to a fee discount in exchange for the investor’s support in creating the strategy. 

But Kempen brought more to the deal than just fee savings. Dijkstra notes that the client was “looking for a low-cost, ESG-integrated equity strategy, and that’s what Kempen does”.

Its status as an engaged and long-term investor helped it create the client relationships needed to eliminate its net emission of greenhouse gas, which serves as a legacy advantage. 

Looking at long-term agreements
Framing relationships with long-term contract provisions also helped the firm get into this position. Any investor can do the same. In 2017, I led an FCLTGlobal effort that convened leading global asset owners and asset managers to develop this matrix of long-term contract provisions. 

Net-zero commitments were not our explicit focus during this process, but what emerged was a common perspective: when investors extend their focus into the long term, vital societal issues like climate change become highly material, and they will move money as a result. 

This movement of money includes favouring managers that actively participate in the investor-corporate dialogue, making hiring and firing decisions based on performance over time periods that are longer and more inclusive of externalities, and rethinking return-seeking strategies based on long-term risk adjustments.

The final product of this work was a matrix of long-term contract provisions for each component of a typical mandate agreement, including fees, term, evaluation process, redemption, reporting, and projections. Kempen is one investor that has put these provisions to work, joined by others including Boston-based MFS, the Ontario Teachers’ Pension Plan, and more. 

“Shared responsibilities, like achieving net-zero carbon emissions, entail strong relationships, and the mandate contracts between asset owners and asset managers are the instruments for creating them. For example, Amsterdam-based Kempen Capital Management made a commitment to net zero in December 2020”

Changes like these are technical and can often be forgotten. They also are immensely consequential. Investors will not fulfil their commitments to eliminate net greenhouse-gas emissions by 2050 – or ever – without them. Mandate provisions give investors focus, and climate change is one of the issues that comes into focus when these provisions are structured for long-term purpose.

For investors, reducing carbon emissions is a shared, long-term commitment. That commitment starts to become real and practical when its investment mandates support it, a key part of the answer to how investors can achieve net zero.

Matthew Leatherman was policy director at North Carolina department of state treasurer prior to joining FCLTGlobal in 2017, where he led the organisation’s work to develop long-term investment practices