Why should investors consider rethinking their approach to aligning to net zero? Because in our view many current solutions, which focus on today’s low-carbon companies, have real flaws.
Without a genuine forward-looking focus, they fail to identify companies across the economy - even in high-carbon sectors - whose credible, Paris Agreement-aligned progress on decarbonisation might not be recognised by the market. In addition, some purportedly low-carbon strategies do not assess scope 3 emissions, which are especially material for sectors like financial services and real estate. By not recognising the full scope of companies' emissions while withholding capital from transitioning firms, they slow progress towards achieving net zero.
Invest in ice, not fire
Some of the best net-zero investment opportunities, in our view, exist among companies whose current high emission volumes contrast with genuine climate action. It follows that polluting firms with no ambition to decarbonise are the most salient risks to be avoided.
Ice cubes and burning logs
In many hard-to-abate sectors that are vital to economic activity, like construction and shipping, cuts in emissions are most needed to reach a net-zero future. In these industries, some companies currently have large carbon footprints today, but are pursuing science-based decarbonisation targets that are aligned with the Paris Agreement and credible plans to achieve them. We call these companies ‘ice cubes' because they contribute significantly to cooling the economy.
For investors, they are important exposures in efforts to align portfolios to net zero. And they can also be potential opportunities for generating long-term returns, in our view.
By decarbonising, ice cubes are aligning with the regulatory momentum and anticipated market shifts resulting from the transition. In our view, such proactive management of climate-related risks, which improves their ability to operate strongly in a world aligning to net zero, could be underpriced by the market at present, only to be realised in the future.
In direct contrast are high-emitting companies showing no evidence of targets or plans to decarbonise. We call them ‘burning logs' because in climate terms, they are essentially on fire, heating the economy. These companies are likely to be adversely exposed to climate-related risks as policymakers seek disclosure on emissions and markets evolve to favour low-carbon products and services.
To identify ice cubes, we apply our proprietary ITR methodology to assign a company a forward-looking temperature score. This measures how effective the firm will be in helping to decarbonise its sector, and the economy more broadly, in the future - and whether it will keep to the 1.5°C -2°C warming threshold set by the Paris Agreement.
ITR is key to our TargetNetZero investment solutions in equity, fixed-income and convertible bond markets. It enables us to align portfolios to Paris Agreement, seek returns and provide diversification. This is the outcome of seeking what we believe are financially robust, decarbonising companies across the economy - even in hard-to-abate sectors.
We believe our forward-looking approach helps identify opportunities that the market might not currently recognise, while also benefitting portfolio diversification and providing capital to decarbonising companies. The core aims of our TargetNetZero solutions are to deliver performance, provide diversification and help drive the transition.
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