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EU Paris-Aligned Benchmark (PAB)
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What is the EU Paris-Aligned Benchmark (PAB)?
In 2020, the European Commission laid down the minimum criteria that indexes must meet to be labeled CTB and PAB1. PAB indexes approximate a pathway for the index to achieve alignment with the 1.5°C goal of the Paris Agreement, measured against an initial base level for the index.
The starting point is the standard index for the particular universe. For example, the MSCI ACWI PAB Overlay Index is created from its standard parent index, MSCI ACWI. A PAB version of the cap-weighted parent index excludes particular categories of fossil-fuel intensive companies, and then undergoes the following required adjustments to certain target criteria:
- Reduce the index-level carbon intensity by half (50%) relative to the parent index.
- Reduce the index-level carbon intensity each year by 7% (relative to the previous year climate index intensity).
The adjustments cannot be made by merely reducing the weights or excluding high-emitting sectors, because the index is required to maintain a level of exposure to all sectors.
- The 7% annual self-decarbonization rate can be accomplished in two ways:
- The underlying companies in the index reduce their emissions (intensity) compared to the previous year.
- The constituents of the index can be changed so that, in aggregate, the index’s emissions are reduced over time.
Looking at the Implied Temperature Rise (ITR) and a Paris Aligned Benchmark Together
Today, 90% of the world’s public companies have an Implied Temperature Rise of above 1.5°C2, making it exceedingly difficult for a diversified index, including a Paris Aligned Benchmark, to have an ITR of 1.5°C or 2°C at this point in time.
In fact, a portfolio with an ITR of 1.5°C today would likely mean high concentration and a significant shifting of weights toward those few companies that already have an ITR of 1.5°C or below. And, as the availability of Paris-aligned investment opportunities may become increasingly limited with each passing year3, it is important for investors to encourage, incentivize and help all companies to decarbonize in the coming years.
Therefore, it is understood and accepted4 that the ITR of the holdings of a Paris Aligned Benchmark can, and often typically will, have an ITR above 1.5°C or 2°C today.
The index methodology rules for a PAB, and in particular its year-on-year self-decarbonization requirement, are designed to over time get the ITR of the index holdings below 2°C, and eventually to 1.5°C. Hence the methodology is aligned with a 1.5°C pathway within the timeframes agreed by the Paris Agreement, and consistent with the Paris Aligned Benchmark regulations.
Learn more about Implied Temperature Rise.
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