Nature in portfolios: A practical framework for investment decision-making
This report introduces Northern Trust Asset Management’s Nature Framework, a three-pillar approach for integrating nature-related risks and opportunities into investment portfolios. It demonstrates that significant biodiversity impact reductions and nature-aligned outcomes can be achieved with modest active risk through targeted, materiality-based implementation and active stewardship.
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OVERVIEW
Why we developed the nature framework
Nature underpins economic activity through essential ecosystem services, including food production, freshwater availability, and climate regulation. Healthy ecosystems act as natural carbon sinks, but historically, companies have failed to calculate nature-related capital impacts on their balance sheets, leading to the potential mispricing of assets. As biodiversity loss and ecosystem degradation accelerate, companies face risks from resource scarcity, supply-chain disruption, and regulatory changes. These pressures are increasingly financially material; for example, in 2023, 3M faced a US$10 billion liability settlement for water contamination. The Northern Trust Asset Management (NTAM) Nature Framework was developed to holistically incorporate nature-related impacts, risks, and contributions into portfolio construction and risk management.
Three design principles
The framework is guided by three core principles. Firstly, it focuses on financial materiality, targeting factors most relevant to long-term investment outcomes. Secondly, it prioritises measurability and scalability, utilizing available datasets that can be applied across large, diversified portfolios. Finally, it adopts a double materiality approach, assessing both how companies impact nature ("inside-out") and how nature-related risks affect company performance ("outside-in").
Developing the NTAM nature framework
The framework extends NTAM’s materiality-based sustainable investing philosophy by assessing leading tools such as the Taskforce on Nature-related Financial Disclosures (TNFD) LEAP approach, the ENCORE dependency assessment, and SASB industry-specific materiality. It is structured around three complementary pillars: Impact on Nature, Risks and Dependencies, and Contribution. The objective is not to measure every dimension of nature but to focus on financially material issues supported by decision-useful data, allowing for implementation while datasets continue to mature.
Impact on nature
The impact pillar represents the "inside-out" perspective, identifying where portfolio companies exert the most significant pressure on natural systems. It incorporates biodiversity footprint metrics using Land Conversion Equivalent (LCE) relative to sales. Research shows that biodiversity impacts are highly concentrated; within the MSCI World and MSCI EM Indices, approximately 30 companies contribute around two-thirds of the benchmarks’ total biodiversity footprints. Furthermore, TNFD high-priority sectors represent 41% of the MSCI World Index by weight but account for approximately 97% of its total biodiversity impact, supporting a targeted, sector-based implementation approach.
Risks and dependencies
This pillar captures the "outside-in" perspective by identifying where resource scarcity and ecosystem degradation may lead to asset impairment. It combines multiple datasets, including water stress and deforestation-risk metrics. The analysis found that in the MSCI World Index, over 80 companies contribute to deforestation, representing 12% of market value (MV), yet only 27 companies (6% of MV) have a formal deforestation policy. This highlights a significant gap between exposure and corporate management practices. The framework differentiates between companies that actively manage these risks and those that remain exposed, rewarding stronger corporate practices.
Contribution
The final pillar assesses the extent to which companies support nature-aligned outcomes through their products and services. It utilizes NTAM’s proprietary SDG framework to identify revenue opportunities linked to SDG 6 (Clean Water and Sanitation), SDG 12 (Responsible Consumption and Production), SDG 14 (Life Below Water), and SDG 15 (Life on Land). A representative portfolio analysis showed that positive revenue alignment to SDG 6 could be increased to 7.12% compared to just 0.02% in the MSCI World Index.
Applying the framework in portfolios
To demonstrate practical application, the framework was applied to the MSCI World and MSCI EM indices. Implementation targets included a 50% reduction in biodiversity footprint relative to the benchmark and a 20% reduction in exposure to companies with assets in high water-stress locations. The analysis found that a 50% reduction in biodiversity footprint required only 4 basis points of additional ex-ante tracking error in the MSCI World Index, suggesting that meaningful improvements do not require substantial deviation from benchmark characteristics.
Meaningful nature improvements at modest active risk and preserving factor content
In aggregate, the results suggest that the framework can be implemented within a modest active risk budget. A representative model portfolio achieved its sustainability objectives with approximately 59 basis points of active risk in the MSCI World Index and 49 basis points in the MSCI EM Index. This demonstrates that investors do not need to choose between nature-related objectives and financial outcomes, as active risk can be managed while delivering significant improvements in portfolio nature characteristics.
Company-level differentiation within sectors
A key advantage of the framework is its ability to differentiate between companies within the same sector rather than relying on broad exclusions. For example, comparing two companies in the materials industry, the framework identified Company A as a preferred candidate due to its lower biodiversity footprint (0.039 vs 0.13), lack of deforestation links, and positive SDG contribution, despite Company B having a higher water management score. This allows for nuanced portfolio construction and targeted stewardship.
Data limitations
The framework acknowledges current limitations in nature-related data, such as a reliance on estimation techniques and third-party datasets for location-based assessments. Consequently, it does not rely on a single metric but considers biodiversity footprint metrics, materiality assessments, and corporate disclosures together to provide a comprehensive view of risks and opportunities.
Beyond portfolio construction: the role of stewardship
Active stewardship remains essential, particularly for priority sectors where nature-related risks are most concentrated. While portfolio construction can tilt exposure toward companies with better profiles, engagement is required to improve disclosure and risk management in hard-to-avoid industries. The framework helps identify the most effective candidates for such engagement.
Conclusion
Nature-related considerations are increasingly relevant to corporate risk management and long-term investment outcomes. The NTAM Nature Framework demonstrates that investors do not need perfect data to take action. By focusing on financially material impacts and risks, investors can begin integrating nature into investment decisions today in a practical, scalable, and investment-relevant manner.