Investor portfolios that take climate change into account already outperforming those that do not says BlackRock report

Investor portfolios that take climate change into account already outperforming those that do not says BlackRock report

By Will Bugler

Investors can no longer ignore climate change as portfolios that take climate risk into acount are already outperforming those that do not. This is the overarching message of a new report released by BlackRock, the world’s largest asset manager with almost $5 trillion (£3.7 trillion) in assets.

The report finds that increasing risks posed by climate change, including extreme weather events, will continue to put pressure on governments to regulate to reduce carbon dioxide emissions and implement climate resilience strategies. This will lead to both risks and opportunities for investors.

The report identifies considerable transition risks for investors, highlighting that government regulation on carbon emissions is highly likely in the near future. “A tide of new regulations to combat climate change is rising,” BlackRock said in a report. “The risks are under appreciated, yet could soon start to unfold.”

It advises investors to include climate change into their investment decision making processes, and to review their portfolios to ensure that they are not overly exposed to high risk investments.

Higher rates of return

As well as regulatory risks, the report points to significant investment opportunities, highlighting a large gap in infrastructure investment. Government and private sector spending on new, climate resilient infrastructure offers plenty of opportunities for investors to realise strong returns.

Importantly, the report also shows that investors who are already taking account of climate risks are already outperforming those who are not. “Our research suggests there can be little downside to gradually incorporating climate factors into the investment process — and even potential upside,” BlackRock said.

As demonstrated in the chart below, the report shows that companies that are effectively implementing ‘green’ initiatives, are more investable. “Those businesses that factor in these changes into their plans already seem to consistently outperform those that do not”, the report finds.

Image: Sources: BlackRock Investment Institute and Russell Index data, July 2016. Notes: The analysis above uses a simulated backtestetd portfolio to illustrate the performance of a strategy optimised for climate risks. In constructing the hypothetical portfolio, BlackRock takes all companies within the Russell 3000, ranks each with a climate score (utilising the measures described to the left) and then applies a risk weighting. These data points are then used in a standard mean variance optimisation. Performance is net of historical trading costs. This does not represent an actual portfolio, fund managed by BlackRock or investable product, nor is it a recommendation to adopt any particular investment strategy.

The chart above shows a simulated portfolio that investigates Russell 3000 Index companies that have the highest climate score on a monthly basis. The portfolio’s average CO2 missions was 50% below the benchmark level at the end of the period – as shown by the grey and purple lines. As the green line shows, the simulated portfolio beats the Russell benchmark by 7 points over the period. This climate-smart portfolio held 1,600 to 1,800 companies over the period, against 3,000 for the benchmark.

The report is intended as a guide for investors about how to mitigate climate risks, exploit opportunities containing useful information about climate risks across 4 areas:

  1. Physical effects: more frequent and severe weather events;
  2. Technological progress: advances in batteries, electric vehicles or energy efficiency;
  3. Regulatory changes: subsidies, taxes and energy efficiency rules, and;
  4. Social impacts: changing consumer and corporate preferences.

The report’s key messages include:

  • The longer an asset owner’s time horizon, the more climate-related risks compound. Yet even short-term investors can be affected by regulatory and policy developments, technological disruption or an extreme weather event.
  • All asset owners can — and should — take advantage of a growing array of climate-related investment tools and strategies to manage risk, search for excess returns or improve their market exposure.
  • Investors need to prepare for carbon pricing. Many see this as the most cost-effective way for governments to meet emissions-reduction targets. These would incentivise companies to innovate and help investors quantify climate factors.

Download the full report by clicking here. 


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