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Climate change risks: what's your manager doing?

July 2016

Kirsten Temple, Senior Consultant at JANA, discusses how climate change is impacting investment decisions.

JANA recently conducted a survey of investment managers from around the globe. We asked for their views on climate change and the risk it poses to their investments. We also asked how they are managing these risks in their portfolios. Here's what we found1.
 

1. Is climate change a risk to portfolios?

Yes. The majority of managers said climate change and the associated policy and regulation would pose a risk to their asset class, see Chart 1.

Chart 1: Most managers consider climate change a risk in their portfolios


Source: JANA, February 2016.
* Fixed Interest Incorporates government bond and diversified fixed interest strategies.
* Credit includes investment grade credit, structured credit and emerging market debt

Those who answered 'Yes' were then asked to complete a number of questions about their views of the risks over different time frames. Unsurprisingly, many said the risk to their asset class was higher in the longer term than in the immediate future. 73% indicated the risk in the next two years was either 'very low' or 'low'. Chart 2 shows this fell to 18% and 13% in the 10-20 years and 20 years-plus time periods respectively.

Chart 2: The investment risk of climate change, over different time frames: manager views
Source: JANA, February 2016.

Drilling into this, we found that the perception of risk varied by asset class. For example infrastructure managers were more likely to see a high risk to their asset class, both in the near term and over longer periods (see Chart 3). Infrastructure assets are arguably more vulnerable to the physical and policy related impacts of climate change, in addition to having less flexibility to reposition portfolios.

Chart 3: Infrastructure manager views: the investment risk of climate change over different time frames
Source: JANA, February 2016.

Interestingly, Australian share managers who viewed climate change as a risk to their asset class were more optimistic about the magnitude of risk compared with global share managers. See chart 4.

Given Australia's high reliance on the resources sector, we'd anticipated a greater perception of risk from Australia's managers.

Chart 4: The magnitude of climate change risk: global share managers see a greater risk, compared with Australian share managers
Source: JANA, February 2016.
 

2. What are the greatest climate change risks?

We asked managers which areas of the investment universe would be most at risk from climate change. While there was a reasonable level of commonality, there were some key points of difference.

Gas was frequently highlighted as an 'at risk' segment of the market. However some managers saw the gas sector as a beneficiary of climate change, because gas produces less carbon than coal for each unit of power.

Equally, diversified fixed income managers, who invest in both government and investment grade securities, differed in their views regarding which components of their investment universe faced the most risk. Whereas some managers pointed to the investment grade credit issuers (and energy and mining issuers in particular), others felt that government issuers faced considerable risk because of the risk climate change poses to economic activity.

3. How are you managing climate change risk?

We asked managers how they manage climate change related risks in their portfolios. They told us:

  • Through different portfolio management techniques such as:
    • requiring a higher return to compensate for risk
    • portfolio risk management strategies, and
    • avoidance of the most at risk assets.
  • Property and private equity managers were more likely to emphasise the role of portfolio level risk management.
  • Many managers reported climate change risk as being part of their regular analysis. They consider potential impacts when reviewing individual investments.
  • Most managers focus on the components of their investment universe that will be most affected by climate change. However, many also noted how universal the nature of climate change risk was, both for their asset class and for investment markets more broadly.
  • Identifying second order impacts and determining how best to reflect these when making investment decisions was considered challenging. This is particularly the case for shorter duration assets or risks that may only present themselves over the very long term.
  • The number of managers using external Environmental, Social and Governance (ESG) data providers has increased considerably over recent years. 72% of managers surveyed indicated they use ESG data providers for climate change related data specifically. This was particularly prevalent amongst infrastructure, global fixed income and emerging market share managers. Within listed shares, more global share managers use ESG data than is the case for Australian and New Zealand share managers.

Climate change has gone from a third order risk to front of mind for many in the investment management community. Managers are allocating additional resources to assess this risk, both internally and through third party providers.

Investment managers play an important role in assessing and managing climate change on behalf of their investors. The skill and capabilities of active managers varies, and selecting high calibre managers with strong investment capabilities is essential for managing risk and delivering on expectations.


1 JANA surveyed 276 distinct strategies in February 2016 and received an 80% response rate. In some cases, investment managers responded on behalf of a number of strategies and asset classes. A number of managers that answered "No" to our survey were answering on behalf of passive or quantitatively managed strategies.

Important information

This information has been provided by JANA Investment Advisers Pty Ltd (ABN 97 006 717 568, AFSL 230693) ("JANA"), investment adviser to MLC Investments Limited (ABN 30 002 641 661 AFSL 230705) and NULIS Nominees (Australia) Limited (ABN 80 008 515 633, AFSL 236465), members of the National Australia Bank Limited (ABN 12 004 044 937, AFSL 230686) group of companies (NAB Group), 105–153 Miller Street, North Sydney 2060. An investment or any product or service offered by JANA, or MLC does not represent a deposit or liability of, and is not guaranteed by, the NAB Group.

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