The low-carbon transition and the disconnect between companies and their pension funds

Richard Folland and Shuen Chan, Co-founders & Partners at Sustineri, discuss the frequent lack of transparency in how corporate pension funds approach climate and sustainability

There is growing evidence that business is serious about addressing the low-carbon transition. Over 100 companies now have approved science-based targets, i.e. they have set an emissions reduction target in line with accepted climate science. Even major fossil fuel companies are being more pro-active: witness Shell’s recent energy transition report, and Exxon’s 2 degrees C scenario analysis report (even if there remain major question marks about the assumptions the sector continues to make).

Action by corporates on climate change is of course vital. However, the institutional investor sector is equally important: mobilising their immense pools of capital will be fundamental to securing a low-carbon future for us all.

Action by pension funds – incorporating and mainstreaming the transition and its implications into the DNA of their investment practices – is something that we should all welcome. Public pension funds are in overall terms taking a greater interest in sustainable investment; but the same perhaps (although there will always be exceptions) can’t be said about corporate pension funds.

Transparency and corporate pension funds

Some fairly cursory research would indicate that there is a lack of transparency about how corporate pension funds approach climate and sustainability and general integration of Environmental, Social and Governance (ESG) factors into their investment process. Do they accept the scientific case? Would they agree, as Mark Carney argues, that climate change will have major implications for financial stability? Do they have the governance and risk frameworks – and the integrated expertise – to address this agenda? Are they selecting their investment managers based on specific criteria that address these risks? Where do they stand on initiatives such as the Climate Action100+, the global investor-led initiative to engage with the largest greenhouse gas emitters?

Overall, the most important question worth asking of pension funds is whether they have a policy on the transition. Enough guidance has now been published – from The Pensions Regulator to the industry-backed Taskforce on Climate-Related Financial Disclosures, which makes major recommendations on how institutional investors should address strategic, governance, risk management and targets considerations  – that, respectively, pension funds and the broader range of companies and investors should be taking climate risk seriously. So it ought to be a subject that is hard to ignore.

The other key question should probably be directed more at the corporate sector. They may well be taking action (including serious structural changes to their business model) on the transition; but are they in a dialogue with their pension fund, who may well be exacerbating the problem (eg by investing in more carbon-intensive stocks) that their parent corporate is trying to mitigate?

Food for thought

All this should give food for thought to the corporate sector and to the pension funds sector. But there are two other dimensions that they might care to consider.

First, the direction of travel on policy. In its response last month to its High-Level Group on Sustainable Finance (HLEG), the European Commission acknowledged the theme of fiduciary duty picked out by the HLEG. In its action plan, the Commission has therefore said that it plans to bring forward a proposal shortly to clarify investor duties – set within the context of fiduciary duty – and how they should consider sustainable finance within their asset allocation. The Green Finance Taskforce, which reported to the UK Government just before Easter, has been thinking along similar lines, recommending that regulations on fiduciary duty should clearly incorporate ESG issues.

But perhaps more importantly than that, corporates might reflect on whether their pension fund is adopting the types of values that their employees and beneficiaries would like to see. In its latest Global Shapers Survey (covering more than 30,000 individuals under 30 from 186 countries), the World Economic Forum says that, for young people, climate change and the destruction of nature is their number one global issue. The view of millennials is one reason why public sector pension funds are coming under increasing pressure from external groups and stakeholders – perhaps the time is approaching when corporate pension funds will also start to come under this spotlight too, and they can no longer hide behind the CSR practices of their corporate business.

Richard Folland and Shuen Chan are Co-founders and Partners at Sustineri, a boutique advisory firm that provides insights and solutions to institutional investors and other stakeholders in a world that is advancing towards a low-carbon future.