OTPP advises on climate risk mitigation

Ontario Teachers’ Pension Plan (OTPP), an investor known for its advanced risk-management tools and processes, considers that the common tools available to investors to mitigate carbon risk for investors – portfolio carbon footprints and thematic divestment – provide incomplete risk management. The fund has suggested macro- and microanalysis is necessary to understand a company’s complete picture, which then supports a specific investment thesis, use of non-equity instruments, an engagement strategy or a divestment decision.

In its paper, Climate change: separating the real risks for investors from the noise, OTPP uses an example to demonstrate that the carbon footprints of a portfolio have limited use and do not provide investors with a complete picture or response to climate change.

It says that a portfolio footprint can give a false assurance of managing climate risk and miss[by missing?] the complete picture of physical impact risks in those sectors with supply chain risks.

OTPP believes with the right analysis and interpretation, carbon footprinting can be one element of a risk-management strategy. For instance, in its example only one company in the construction and materials sector is driving the portfolio carbon intensity higher than the benchmark. Thus engagement with that company could be the next step.

The paper also says that carbon footprints do not show the opportunities from[associated with?] climate change, such as measuring the reduction in emissions from technologies like carbon capture and storage. But importantly, carbon intensity doesn’t provide useful information about the context of the investment or corporate strategy.

The paper also says that divestment should be the outcome of a well-informed and thoughtful investment process, rather than a wholesale approach to a single sector.

“At OTPP, we are particularly sensitive to investment losses given our maturity; therefore, risk is managed from the top down and bottom up and matched carefully to liabilities. This risk consciousness flows down to individual investment decisions,” the paper says.

“Investors need a toolbox of solutions to help manage physical and regulatory risk across their portfolios, both in the short and longer term.”

Meanwhile the Environment Agency Pension Fund has released a policy to address the impacts of climate change, which aligns the portfolio and processes with keeping the global average temperature increase to below 2 degrees Celsius relative to pre-industrial levels.

The fund has set targets for 2020: to invest 15 per cent of the portfolio in low-carbon, energy-efficient and other climate mitigation opportunities and decarbonise the equity portfolio, reducing exposure to future emissions by 90 per cent for coal and 50 per cent for oil and gas compared to the underlying benchmark.