Regulation: A force for good or ill?

Most countries worldwide have adopted and committed to a global climate agreement. Meanwhile, companies have committed to becoming Net Zero by changing economies, businesses, and ways of life. The financial industry has played a significant role in enabling such commitments via investor initiatives and regulations. However, the report recommends that voluntary reporting on climate change only gets a transparency level so far. Frameworks such as TCFD can help structure thoughts about climate disclosure, but only regulators can achieve transparency wide and deep enough for companies to embrace the topic sincerely.

Methodology: Magic or mayhem?

Investment carbon footprinting remains the starting point of any portfolio analysis. To succeed, investors must have a deep understanding of the complex carbon footprint associated with a particular product, service, or subsidy. The Climate Team’s automated Climate Impact Reports help detect all cases of exposure to fossil fuel ownership and involvement in controversial extracting practices. Investors can use a qualitative and forward-looking index such as climate targets, management systems, or strategies to steer a portfolio toward less emissions in the future. However, such a strategy depends on other factors targeted at achieving progress in this direction.

From reporting to acting: Production, process and products

Companies need to step up and make clearer statements and offer more critical data to enable investors to rely on them alone. A regulatory framework might ensure that ESG rating agencies adhere to specific standards and a code of conduct. Investors should create an ESG house view based on individually chosen and weighted indicators to distinguish different qualities of ESG data. A collaboration between regulators and data providers would be beneficial.

The ten lessons are:

• It’s the regulator, stupid: Voluntary climate disclosure by companies is insufficient, and regulators must enforce transparency for investors to act effectively.
• What is essential is often invisible to the eye: Identifying fossil fuel companies is complex, as many non-obvious sectors own reserves or contribute to extraction.
• Everyone’s frenemy: Carbon footprinting: Carbon footprinting is a valuable tool for monitoring portfolio emissions over time and evaluating decarbonisation strategies, but it is not a standalone solution for climate risk assessment.
• Measuring mayhem – lots of answers, but to which question exactly?: Investors should first define their specific climate objectives and then choose the appropriate methodology to measure and act upon climate-related risks and impacts.
• Market growing pains can lead to losing gains: The diversity in ESG ratings is beneficial, and regulation should focus on ensuring fair competition and innovation rather than standardising outcomes. Additionally, ESG data should not be free, as it could stifle innovation and unfairly burden taxpayers.
• Human vs. machine: Rightsizing the expectations for artificial intelligence in ESG: While AI and machine learning can enhance ESG data collection and analysis, human expertise remains crucial for accurate and nuanced ESG ratings.
• Regulation and climate change: The tragedy of the misled theory of change: Current EU regulations on climate change primarily focus on transparency and risk management for equity investors, neglecting the potential impact of debt financing and other tools in driving real-world change.
• Net zero: Thanks for nothing: Many investors’ net-zero pledges overlook the crucial aspect of carbon removal, focusing mainly on emission reductions. A comprehensive net-zero strategy requires substantial investment in carbon removal technologies.
• Bad boards are elected by good investors who don’t vote: Investors should actively engage with companies and utilise their voting power to influence corporate climate action, as divestment alone may not lead to meaningful change.
• Climate change is shaking up the debt world: The focus on climate action is shifting from equity investors to debt investors and lenders, as they have the power to influence the real economy by denying capital to climate-damaging businesses and financing the net-zero transition.