Any changes to the Government Pension Fund Global's investment strategy on the basis of climate risk should be made with caution, its money manager warns.
In a letter to the country's Ministry of Finance, Oystein Olsen, governor of Norges Bank, and Trond Grande, chief of staff and deputy CEO of Norges Bank Investment Management, said the Oslo-based fund is exposed to climate risk but that it is difficult to establish the size of the risk and how climate change might impact the fund.
Norges Bank executives said that, based on studies, it does not believe there is sufficient evidence that climate risk is systematically mispriced.
However, it said that the sovereign wealth fund needs to address climate risk and also take advantage of opportunities that arise from the transition to a low-carbon economy, for example.
The risks it is exposed to are physical and transition, the letter said. Physical risk comes from exposure to "acute events such as extreme weather and more gradual changes such as rising sea levels and droughts," which can affect individual investments both negatively and positively. Transition risk "comes from exposure to regulatory changes, technological innovations and evolving consumer preferences as we move towards a low-carbon economy," the letter said.
The letter was in response to the Ministry of Finance's work to increase the understanding of how climate change, climate policy and the green transition could impact the wealth fund. NBIM was asked to analyze and assess the fund's financial climate risk using various models and methods, but "quantifying the climate risk in the fund is no easy task," the letter said.
The fund already calculates and reports on the carbon footprint of companies in its portfolio, with the equity portfolio's footprint about half the size it was seven years ago. Figures were not disclosed. Executives also conduct scenario analysis and stress testing.
NBIM also considered other ways of addressing climate risk in the fund. NBIM said it plans to strengthen its risk monitoring of companies before they are admitted to its equity universe. A change to a climate-adjusted equity index from the current one "would affect the fund's return and risk characteristics," the letter warned, with transaction costs for tracking the index increasing due to more frequent changes to climate-adjusted indexes.
GPFG had 11.03 trillion Norwegian kroner ($1.29 trillion) in assets as of March 31.