Limiting the Earth’s temperature rise to 2°C or less is a major goal of the United Nations, corporations, and governments worldwide. It’s now factoring into the allocation decisions of more and more investors as well.

High temperatures and severe weather events may be influencing some investors to add environmentally aligned investments to their portfolios. But a realization that environmental, social, and governance (ESG) factors may have the ability to drive performance appears to be another part of this growing trend, according to findings from the Natixis Investment Managers ESG Cross-Survey Report.1 The study shows that investors place a high priority on the environmental aspect of ESG and want their investments to help solve serious ecological issues such as pollution, climate change, and energy conversation. In fact, 73% of individual investors surveyed say they would be more inclined to buy a fund if it demonstrated a better carbon footprint than others.

In this interview, Samantha Stephens, a research analyst at Mirova, a Natixis affiliate specializing in sustainable investments, shares her perspectives on investing for a low carbon world and delivering competitive returns.

First off, what is the significance of the 2° warming scenario?
The climate has already warmed by about 1°C since the Industrial Revolution. This is because we’ve burned a lot of fossil fuels: carbon that’s been stored in the Earth’s crust for millions of years. Extracting and burning them has released a lot of carbon dioxide, a greenhouse gas that causes the Earth’s atmosphere to warm.

The 2°C scenario refers to two degrees of temperature rise above pre-Industrial averages. This is the international consensus as to where we need to keep emissions if we want to ensure continued viability for humans and the planet. This is an ambitious objective. To do our part, Mirova has aligned all of our portfolios with a less-than-2°C warming trajectory.

Can you discuss climate change from a risk perspective?
For investors looking to incorporate both climate change opportunities and risks into their investments, there are two types of risk to consider. The first is physical climate risk, like natural disasters or sea level rise. These events can have negative financial impacts if they cause damage to a company’s facilities or disrupt its supply chain.

Climate change adaptation projects help communities, companies, or assets become more resilient to physical impacts. Investment in adaptation is certainly needed but requires a good understanding of the local context.

The second type is transition risk, which comes from unplanned changes. Strict regulation to address climate change, for example, could make fossil fuel assets less competitive than they are today. Basically, we need to start investing as soon as possible to mitigate climate change and reduce transition risk. For investors, this means investing directly in solutions providers for a low carbon world.

What investments are you eyeing for a low carbon world?
First, we prioritize investments in clean energy. Within the utility sector, replacing fossil fuel generation with renewable energy sources – installing wind or solar, instead of coal or gas – is one of the most straightforward ways to combat climate change. Not only does this make sense for the climate, but renewable energy is increasingly becoming competitive, or even cheaper than fossil fuels, in many places.

Investing in low carbon electricity also makes electric vehicles more viable as a solution for climate change, because the electricity mix becomes less carbon intensive. Replacing gas heating in buildings with heat pumps or de-carbonized electric heating also represents opportunity. Energy efficiency can also lead to fewer emissions. In industries where material inputs are a major part of the costs, cost reduction has already driven many efficiency improvements. But there are still opportunities to improve the energy efficiency of buildings through better insulation, for example.

What type of research is required to identify meaningful opportunities?
Most research around companies’ climate impacts has been focused on their carbon footprints. “Scope one” emissions look only at the direct emissions, emitted by the company on its premises. “Scope two” emissions come from the electricity and heat they buy, to operate machinery for example. And “scope three” emissions include everything else, like raw material extraction, transportation, product use, and disposal.

At Mirova, we are convinced that scopes one, two, and three are all necessary when identifying meaningful investment opportunities related to climate change. If you don’t look at scope three emissions for companies in the oil & gas sector, for example, you’re not considering their use of products, which represents 85% of their total contribution to climate change.

We also believe that it’s important to consider “avoided” emissions, which look at how much carbon would have been emitted if it wasn’t for a company’s products or activities. This helps identify companies that provide low carbon solutions.

How can individual investors support climate concerns?
One interesting option for individual investors is Green Bonds. Green Bonds can offer investors the same potential portfolio benefits as conventional bonds, plus additional environmental benefit. They’re structured like any other bond, but proceeds must be directly linked to green projects, like renewable energy, clean mobility, or sustainable land use projects. This makes them especially appealing for environmentally conscious individual investors; relatively small allocations can mean major improvement in the climate profile of an investment portfolio.

Global warming assessment of major investment indexes

Global warming assessment of major investment indexes
Source: Mirova and Carbone 4, 2018

1 Natixis Investment Managers ESG Cross-Survey Report sources data from: Natixis Investment Managers Global Survey of Individual Investors conducted by CoreData Research in Sept./Oct. 2018, including 9,100 investors from 25 countries; Natixis Global Survey of Institutional Investors conducted by CoreData Research in Sep.t/Oct. 2018, including 500 institutional investors in 28 countries; Natixis Investment Managers Global Survey of Financial Professionals conducted by CoreData Research in March 2018, including 2,775 financial professionals in 16 countries; Natixis Investment Managers Global Survey of Professional Fund Buyers conducted by CoreData Research in Oct./Nov. 2018, including 200 respondents in 22 countries.

2 The Bloomberg Barclays MSCI Green Bond Index provides a broad-based measure of global fixed-income securities issued to fund projects with direct environmental benefits according to MSCI ESG Research’s green bond criteria. The green bonds are primarily investment-grade, or may be classified by other sources when bond ratings are not available. The Index may include green bonds from the corporate, securitized, Treasury, or government-related sectors.

3 S&P 500® Index is a widely recognized measure of US stock market performance. It is an unmanaged index of 500 common stocks chosen for market size, liquidity, and industry group representation, among other factors. It also measures the performance of the large-cap segment of the US equities market.

Mirova is operated in the US through Mirova US LLC.

Bloomberg Barclays Global Aggregate Bond Index provides a broad-based measure of the global investment-grade fixed income markets. The three major components of this index are the U.S. Aggregate, the Pan-European Aggregate, and the Asian-Pacific Aggregate Indices. The index also includes Eurodollar and Euro-Yen corporate bonds, Canadian government, agency and corporate securities, and USD investment grade 144A securities.

Green bonds are intended to encourage sustainable investing and support climate-related and environmental projects.

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