Beyond Divestment: Using Low Carbon Indexes
Winner of the 2015 IRRC Institute Investor Research Award for best practitioner paper.
As the global economy copes with the unpredictable challenges of climate change, institutional investors are exploring the potential impact of these changes on financial assets. This paper provides a framework for evaluating ways to reduce two dimensions of carbon exposure – current carbon emissions and potential future emissions embedded in fossil fuel reserves — and explores new and more financially viable ways of managing carbon risk. Read the full article.
Investors are focusing on the risk that a significant portion of current assets could become “stranded”—and thereby drastically lose value—if carbon emissions are constrained by regulation or technological innovation in the future.
Thus far, approaches using sector-based selection (or divestment) have received the most attention from stakeholders and investors; these approaches, which include portfolios based on the MSCI Fossil Fuels Exclusion Indexes, help investors send a strong message to stakeholders but ignore short-term benchmark risk.
Newer, innovative approaches that use re-weighting and optimization techniques, such as the MSCI Global Low Carbon Target and MSCI Global Low Carbon Leaders indexes, would have reduced exposure to carbon-intensive companies while limiting short-term risk against the benchmark.
These newer strategies also are more expansive than traditional approaches, encompassing both current and future emissions, going to the heart of risk mitigation.