Threatened by Hefty Losses, CalPERS, Other Investors Seek to Address Climate Change Via Asset Allocation

Institutional investors are growing louder in addressing climate change risk via asset allocation and other initiatives, consulting firm Mercer has demonstrated.

(January 11, 2012) — More than half of investors consider climate change in their asset allocation decisions, according to new research by consulting firm Mercer. 

Referring to the California Public Employees’ Retirement System (CalPERS), the largest pension fund in the United States, Anne Simpson, Senior Portfolio Manager for Corporate Governance, said: “CalPERS has identified and adopted climate change as a priority theme, and we are implementing a number of actions which are consistent with the findings of the study.”

In response to the Mercer study — which following another climate change-related survey conducted last year — CalPERS’ Wayne Davis told aiCIO that its investment office is developing a plan to integrate environmental, social and governance (ESG) issues into investment decision-making across the portfolio. “Over the years, we’ve taken a number of actions on sustainable investments. Those include creating an internally managed index fund to increase our exposure to companies poised to take advantage of new opportunities due to climate change and supporting increased reporting by public companies on the risks they face from climate change and other environmental issues, among other things. Understanding the issues as completely as we can will help inform our investment decision-making,” Davis said.

As outlined in a release on the findings, among the 12 investors who participated in the follow-up survey, who represent nearly $2 trillion in assets under management, key findings include:

1) 50% of project partners have undertaken or plan to make changes to their actual asset allocations  

2) 80% of partners have or will increase their engagement on climate change with companies and policy makers  

3) One-third of project participants have begun to or plan to allocate more to “climate sensitive assets” (identified in the report as real estate, infrastructure, private equity, sustainable equities (listed and unlisted), efficiency/renewables (listed and unlisted) and commodities (including agricultural land and timberland)  

4) More than half of participants either have, or plan to review, climate risks within climate-sensitive asset classes identified in the report

Jane Ambachtsheer, Global Head of Responsible Investment for Mercer, said: “We are encouraged to see that partners have clearly made efforts to understand and act on the findings from our climate change report. As expected, priorities and areas of focus differ among the partners, and in some cases, the findings have been used to support decisions which were already under consideration, such as an enhanced allocation to infrastructure investments.”

The Mercer report stated: “As a result of the potentially significant impact of climate change risk factors on portfolio risk, the report pointed out that embedding climate change risk into the asset allocation process can help investors adequately capture the nature of the economic transformation process and the potential sources of risk and opportunity associated with climate change,” adding that the report supports the use of scenario analysis to potentially improve risk management and strategic asset allocation processes. “Thinking of strategic asset allocation in terms of diversifying across sources of risk, rather than via asset classes, and embedding qualitative factors into decision-making processes is recommended. We note that particularly following the recent financial crisis, this approach has gained significant traction among Mercer clients and the industry,” the study continued.

Mercer’s initial study on the topic — released in February 2011 — found that climate change could contribute as much as 10% to portfolio risk over the next 20 years.

“Climate change brings fundamental implications for investment patterns, risks and rewards,” Andrew Kirton, Chief Investment Officer at Mercer, commented in a statement. “Institutional investors should be factoring long-term considerations, such as climate change, into their strategic planning. Mercer is pleased to have had the opportunity to kick start such strategic discussions with a group of leading global investors.”

The study — titled Climate Change Scenarios – Implications for Strategic Asset Allocation — asserted that institutional investors could lose trillions of dollars over the coming decades as a result of “continued delay in climate change policy action and lack of international coordination.” Opportunities, the report said, lie in an increased allocation to infrastructure, real estate, private equity, agriculture land, timberland and sustainable assets, with investment opportunities in low carbon technology reaching up to $5 trillion by 2030. Meanwhile, the report outlined the consultancy’s “TIP Framework,” which provides estimations on the rate of investment into low carbon technologies (T), the impacts (I) on the physical environment, and the implied cost of carbon resulting from global policy (P) developments across the four climate scenarios.

Download Mercer’s latest study — “Through the Looking Glass – How Investors are Applying the Results of the Climate Change Scenarios Study” — here.