Investors scrutinizing high carbon emissions risk

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Mercer's Craig Metrick: Risk of exposure to fossil fuel companies “(is) leading to conversations about sustainability and ESG investing more broadly.”

Exposure to companies with extensive fossil fuel reserves and companies with high carbon emissions ranks as the top concern among trends in environmental, social and governance issues, driving pension funds to examine the risks and to craft responses.

“It is probably the one (issue) that is the highest on the agenda of many of our clients,” said Linda-Eling Lee, New York-based global head of ESG research, MSCI Inc. “We're getting more questions about it and more discussion around it than probably any of the other issues.”

Craig Metrick, Denver-based principal and U.S. head of responsibility investment, Mercer LLC, said risk of exposure to fossil fuel companies “is a very strong trend and issue of concern, and also leading to conversations about sustainability and ESG investing more broadly.”

The $181.1 billion California State Teachers' Retirement System, West Sacramento, is reaching out to money managers, consultants and analysts to get their tolerance for carbon asset risk exposure, said Ricardo Duran, information officer, investments. Pension fund officials seek to grasp how they are valuing assets and assessing risks as part of the fund's effort to develop strategies. He declined to identify the firms.

Along that line, Mr. Metrick said, “We're having discussions with clients and investment managers” looking at long-term strategies. Mercer has been “advising clients on what a long-term strategy or policy could look like to address climate change and other sustainability-related issues over the long term.”

The fossil fuels industry “is a large sector and an important one to the global economy, and taking that away could introduce risk to (a) portfolio,” Mr. Metrick said. “The question is, can that risk be managed over time. What is the investment opportunity and risk of having these assets in the portfolio? It is a matter of balancing those two (concerns).”

In terms of recommendations to clients, Mr. Metrick said, “We don't want a strategy to focus on one issue (climate change impact on high carbon-related companies) when ... there will be other issues to address,” like water scarcity, other environmental issues, human rights and diversity. All these issues “may increasingly play a role in economic performance going forward,” Mr. Metrick said.

CalSTRS is leading an effort to reach out to about 30 companies, discussing valuation of reserves and low-carbon strategies, Mr. Duran said, adding responses have been mostly positive in producing constructive dialogue.

The New York State Common Retirement Fund, the Connecticut Retirement Plans and Trust Funds and other institutional investors have filed shareholder proposals at 10 companies, asking them to assess carbon-related risk to their capital expenditures and other business operations, according to a statement Feb. 12 by Ceres, a group of institutional investors encouraging companies to address sustainability issues.

Proposals have targeted Exxon Mobil Corp, Chevron Corp., Southern Co., CONSOL Energy Inc., Alpha Natural Resources Inc., Anadarko Petroleum Corp., Devon Energy Corp., Hess Corp., Kinder Morgan Inc. and Peabody Energy Corp.

“Investors require additional information on how Exxon Mobil is preparing for potential scenarios in which demand for oil and gas is greatly reduced due to regulation or other climate-associated drivers,” according to the shareholder proposal filed by Arjuna Capital/Baldwin Brothers Inc., a Marion, Mass.-based money manager. “Without additional disclosure, shareholders are unable to determine whether Exxon Mobil is adequately managing these risks or seizing related opportunities.”

Exxon Mobil representatives couldn't be reached for comment.

The $173.2 billion Albany-based New York fund, which filed the Devon Energy proposal, is in discussions with officials at the company attempting to reach a resolution, according to a spokesman for Thomas P. DiNapoli, state comptroller and sole trustee of the fund.

The New York fund withdrew in January a similar proposal it filed at FirstEnergy Corp. after the company agreed “to adopt, in significant measure,” the terms of the non-binding resolution, according to a fund spokesman. Tricia Ingraham, FirstEnergy spokeswoman, confirmed the agreement “to provide additional transparency to outline plans to reduce emissions.”

Specialty index fund

Northern Trust Investments, Chicago, is marketing a specialty emerging markets index fund created last fall. It has $500 million in assets, including a big part from AP4, a Stockholm-based national pension fund, according to sources not connected with NTI. Northern spokesman John O'Connell declined to confirm the amount of assets under management. AP4 created the index fund in partnership with Northern using an index customized by MSCI that excludes companies with extensive fossil fuel reserves and companies with high greenhouse gas emissions.

Mats A. Andersson, AP4 CEO, couldn't be reached for comment.

“We are getting inquiries from other investors as divestment from fossil fuel companies is becoming topical and regulatory requirements are evolving rapidly,” Mamadou-Abou Sarr, senior investment strategist, based in Northern Trust's Abu Dhabi office, who worked on developing the index fund, said in an e-mail.

There has been “a move toward a low-carbon economy and (examining) the risks associated with climate change.”

The fund targeted emerging markets in part because “a large share of assets deployed in emerging markets is allocated to resource- and carbon-intensive companies,” Mr. Sarr said. This allocation “could present financial risks to investors as many large emerging markets countries take action to reverse a trend of rising greenhouse gas emissions.” Developing countries will account for 70% of projected global emissions by 2050, Mr. Sarr noted.

“Risks associated with climate are likely to drive valuation of companies in emerging markets,” he said.

Mr. Metrick and Ms. Lee said they are unaware of U.S. pension funds divesting stocks related to fossil fuel or carbon emissions.

“I don't know that any of them are right now looking at divestment as a serious option,” Ms. Lee said. “But there are a lot of discussion around more generally what their carbon exposure is and what they can do more practically to reduce their exposure to carbon-stranded assets and just carbon-intensive assets in generally.”

In January, 17 foundations with combined assets of $1.76 billion committed to divest their fossil-fuel holdings in a joint initiative called Divest-Invest Philanthropy, which is campaigning for other funds to join the move. The divestment initiative includes the $335 million Park Foundation Inc., Ithaca, N.Y., the biggest of the group, followed by the $304 million Schmidt Family Foundation, Palo Alto, Calif., founded by Eric E. Schmidt, executive chairman of Google Inc.

“Part of the dynamic (of divesting) is it's not that easy to implement” for large funds, Ms. Lee said. Fossil-fuel companies make up 8.5% of the market capitalization of the MSCI All-Country World index, she added.

This article originally appeared in the February 17, 2014 print issue as, "Investors scrutinizing high carbon emissions risk".