Audio Blog: Latest Innovations in ESG Investing

Colin Shaw at Sustainatopia discussing ESG investing
From left to right: Colin Shaw, Jason Escamilla, Catharine Banat, Megan Fielding, and Andrew Olig

Four Twenty Seven’s Director of Finance, Colin Shaw, was recently invited to be a part of a panel titled “Latest Innovations in ESG” at Sustainatopia on May 8th, 2017.

The panelists discussed the increasing awareness of investors in their options to invest responsibly, and breaking down the preconception that ESG investing sacrifices financial returns. Colin presented on the tools to used measure climate risk in financial portfolios, and the need that Four Twenty Seven sees for more climate data in order to better provide guidance to businesses for their risk management and adaptation planning. The other panelists included:

  • Andrew Olig, Regional Vice President of Calvert Mutual Funds
  • Megan Fielding, Senior Director, Responsible Investment at TIAA Investments
  • Catherine Banat, Impact Investing at RBC Global Asset Management
  • Jason Escamilla, CEO of Impact Labs

Listen to the entire engaging panel recording below.

Developing Climate-Competent Boards: Climate Risk and Opportunities

Four Twenty Seven’s founder and CEO Emilie Mazzacurati was invited to speak during the Investing in the Age of Climate Change symposium on April 28, 2017, at the University of Oregon. Emilie presented through a video call and talked about Four Twenty Seven’s work, but mainly discussed climate-competent boards. She delved into what a climate-competent board is, the opportunities they provide, and steps to implement climate-competency on a board. She also discussed economic impacts from climate change, the TCFD climate risk disclosure recommendations, the Paris Agreement, and how these topics relate to climate-competent boards.

Investing in the Age of Climate Change was sponsored by the University of Oregon’s Office of the President and the Office of Sustainability. The symposium tackled issues around climate risk, their connection to investment decisions, and the need to understand how these risks can affect an organization’s business in the long-term.

Video: Emilie Mazzacurati speaking at Investing in the Age of Climate Change

Proadapt Symposium on Climate Risk and Investment

On April 20, 2017, Proadapt hosted the symposium “Climate Risk and Investment: Framing Private Challenges and Opportunities” a conference to discuss common challenges and emerging investment opportunities in climate resilience. Emilie Mazzacurati, Four Twenty Seven founder and CEO, joined the symposium to discuss what climate change means for the financial sector, and innovative ways that funding for climate-resilient projects can be achieved.

Emilie first spoke on the second panel of the event, “Climate Resilience and Emerging Tools for Financial Institutions”, highlighting the recent moves by financial regulatory groups and institutional investors to promote climate risk analysis and disclosure, as well as ways to overcome the challenges of translating climate data into business intelligence.

Joining Emilie on the panel was Wagner de Siqueira Pinto, executive manager of the Strategy and Organization Directorate of Banco do Brasil; Jerri Ribeiro, leader of PwC Brazil´s Risk Consulting practice; and Jennifer Burney, Assistant Professor at the University of California San Diego.

Later in the day, Emilie moderated a panel on “The Role of Blended Finance in Promoting Climate Resilience”, a lively discussion on methods to create new funding mechanisms to leverage public and philanthopic funding in order to raise private capital for environmentally-beneficial projects.

Speaking on the panel was Stacy A. Swann, CEO and Partner, Climate Finance Advisors; Joan Larrea, CEO of Convergence; Virginie Fayolle, Senior Consultant and the Climate Finance Lead, Acclimatise; and Stephen A. Morel, Global Energy Contractor, (OPIC).

Emilie capped the day at Proadapt by providing a few key thoughts on how she and Four Twenty Seven see the demand for climate resilience work in the future, including how companies are looking to see how climate data can be used to identify new opportunities as markets change.

In The Arena – Finding Climate Solutions

In the Arena is a broadcast and online series that interviews alumni of the Goldman School of Public Policy at UC Berkeley who have embraced careers in policy innovation and social entrepreneurship. Four Twenty Seven Founder and CEO Emilie Mazzacurati, an alumna of the school (MPP ’07), talked with host and fellow alumnus Jonathan Stein (MPP/JD ’13) about how Four Twenty Seven fulfills its mission to build climate resilience through social innovation by working closely with corporations and investors on climate risk and adaptation. Watch Emilie and Jonathan discuss climate data, social innovation and integrating climate risk to protect local communities on In The Arena — Finding Climate Solutions:

Why BlackRock is Worried About Climate Change

This article was first published on the Huffington Post.

Why BlackRock is Worried About Climate Change

Climate Change: A Material Risk for Investors

While the Trump administration is trying to roll back climate policy in the U.S., concerns over climate change are mounting on financial markets. In September 2016, the largest asset management firm in the world, BlackRock, with $5 trillion under management, released a report where it stated climate change is a material risk and “climate-proofing portfolios is a key consideration for all asset owners.” A few weeks back, BlackRock doubled down in announcing that it expected companies in its portfolio to disclose their exposure to climate risk. BlackRock is not the only investor that has publicly voiced concern over climate risk in its portfolio.

State Street Corp, which manages $2.5 trillion worth of assets, sent a letter in January to the boards of corporations it invests in, asking the companies to disclose their plans to account for climate change and other social issues. Over the long-term, these issues can have a material impact on a company’s ability to generate returns,” State Street said in the letter. “Corporate scandals of the last few years around automotive emissions, food safety or labor issues have emphasized the need for companies to assess the impact of Environmental, Social and Governance (ESG) risks.”

The call for disclosures is rising from individual fund managers as well. Canadian pension manager OPTrust released details of its approach to climate considerations when investing, and asking for more standardized measures for disclosing these risks.

Why are investors concerned over climate risk, and how do they expect these risks to materialize in their portfolios?

Economic and Financial Impacts from Climate Change

Climate change is expected to have impacts on the natural environment, but also on human systems and global and local economies. From decreased crop yields to physical impacts on built infrastructure and labor productivity, impacts are predicted to be uneven but ubiquitous. Business leaders are well aware of this risk, and over the past years, failure to adapt to climate change has consistently been listed among the top five risks for economies in impact and likelihood in the World Economic Forum’s Global Risk Report.

These impacts on the economy at large, on industry sectors, on infrastructure and on physical assets like manufacturing plants, corporate campuses or supply chains can in turn create financial risk for the investors who own equity or have loaned capital to these companies. Researchers from Cambridge and Oxford University estimate in a plausible worst-case climate change scenario (a 4°C-increase outcome), the value at risk of an equity portfolio in 2030 may be between 5% and 20% versus a no-warming scenario.

Regulatory Pressures

Financial regulators have also been raising the alarm, most famously Mark Carney, the Governor of the Bank of England and Chair of the Financial Stability Board (FSB), who referred to the phenomenon as the “Tragedy of the Horizon,” citing outcomes like the impact of rising seas on the world’s coastlines and infrastructure as one of the largest risks to financial stability around the world. The FSB, under the authority of the G20, created last year a special Taskforce on Climate-related Financial Disclosures (TCFD), which recently released its recommendations for investors and corporations on better assessing and disclosing climate risk.

Also in the fall 2015, France became the first country to pass a law introducing mandatory extensive climate change-related reporting for asset owners and asset managers, the Energy Transition Law and its Article 173. The European Union also passed a directive late 2016 requiring pension funds in Europe to assess and disclose climate risk. Financial markets are global, and regulations in Europe very much affect U.S. investors.

These recent regulatory efforts typically break down climate risk into two distinct categories: energy transition risk, and physical climate risk.

Energy Transition Risk

The Energy Transition risk refers to the potential large-scale impacts of rapidly decarbonizing our economies and energy systems—as might happen, for example, if policymakers decided to take climate science seriously. The sectors most exposed are, of course, the energy sector, in particularly fossil fuels, but also energy intensive industries like steel, cement, and chemistry. The entire value chain of the transportation sector, from airlines to car companies, could see their financial performance altered dramatically depending not only on their emissions, but also on how they have prepared and manage this transition.

To measure and compare the energy transition risks, a few methodologies have emerged. The 2 Degree Investment Initiative(2dii) released its methodology as well as a “Transition Risk Toolbox” on how to integrate energy transition risk into scenario analysis for corporations, and is continuing to explore in depth the implications for financial markets. CDP, a central player in the world of corporate climate disclosures, has also developed a pilot methodology on Assessing the Low Carbon Transition (ACT), in partnership with ADEME, the French Environment and Energy Agency.

Physical Climate Risk

Physical climate risk includes both shocks and stresses from climate impacts: shocks refer to extreme weather events, ranging from storms to drought, cold snaps, extreme precipitation and windstorms. Stresses encompasses physical conditions that change over time and can affect anything from agriculture to retail sales or real estate property values, such as a shift in season—as observed most recently on the East Coast, with an unseasonably warm, spring-like weather, changes in precipitation patterns, gradual increase in temperatures, depletion of water, as well as sea level rise.

A few research institutions have started developing methodologies to quantify the linkage between climate hazards and economic indicators, including most notably the Risky Business Project on the economic risk of climate change in the United States, and Norwegian think tank CICERO’s recent report on Shades of Climate Risk. However, as shown in the Global Adaptation and Resilience Investment working group (GARI) report published at COP 22 in November 2016, investors are concerned over lack of data and tools to better measure risk in a financial portfolio, and benefits of investing in resilience.

What Can Investors Do to Reduce Climate Risk Exposure?

Despite the lack of established tools and methodologies, investors and portfolio managers can significantly hedge climate-related risks by assessing exposure of their asset portfolio, rebalancing exposure across assets, sectors and geographies, and developing targeted engagement strategies.

1. Assessing Exposure in their Asset Portfolio

Climate impacts can be felt across all asset classes. Real assets (infrastructure, real estate) represent the most direct risk for asset owners, but also the easiest to understand and manage. Investors typically know the exact geographic location for these assets, which enables a direct exposure hotspot analysis, as well as direct engagement with asset operators on climate risk and potential risk mitigation measures. Equity and credit portfolios are more complex to screen for and assess physical climate risk. Specialized providers like Four Twenty Seven provide screening tools, benchmarked equity scores, as well as custom portfolio risk assessments focused on physical climate impacts.

2. Developing Targeted Engagement Strategy

Investors have a critical role to play in ensuring climate risk management and disclosures become the norm rather than the exception. Especially in the U.S., in a context of regulatory pull back from financial regulations and climate policy, market forces must impose the transparency and responsibility needed to price assets accurately. This engagement can take many forms, from supporting proxy motions from activist investors like As You Sow to engaging with working groups like the Investor Network on Climate Risk (INCR) at Ceres, or direct engagement with portfolio companies.

Companies are also encouraged to develop climate competency in the boardroom so that at least one of the corporate directors has a technical understanding and direct responsibility for bringing climate science and climate change considerations to the Board during strategic and risk management discussions. This pressure was heeded by ExxonMobil, after an extensive campaign to demonstrate that ExxonMobil was not accurately accounting for climate change science in its asset and reserve valuation: the company’s board recently added Susan Avery, a physicist and atmospheric scientist, to its board of directors.

Change will be slow, but the growing recognition that climate change is an economic and financial issue is our best hope to drive meaningful, long-term policy change, as well as to increase resilience and our society’s ability to adapt to climate change. Contrarian climate policy in the U.S. may slow down the adoption of new standards, but it won’t slow down climate change, and the need to address its social and economic impacts.

Climate Adaptation Planning – Challenges, Requirements, and the Need to Streamline

Climate Adaptation Planning – Challenges, Requirements and the Need to Streamline

The Challenge

Cities and counties across the United States face a variety of challenges from climate variability and change as well as non-climate stressors that changing climate conditions threaten to exacerbate. Local jurisdictions that repair infrastructure, make land use decisions, and engage communities in a way that accounts for future change, can help make their cities more resilient. However, many cities and counties lack the capacity, resources, and funding to assess climate risks, integrate climate adaptation into existing plans, and implement adaptation actions in the face of competing or more immediate needs.

Even so, a growing number of local jurisdictions are engaging in voluntary commitments to mitigate and adapt to climate change. A wide range of available resources makes this possible, and climate legislation increasingly requires it, but both can also make implementing a cohesive, streamlined adaptation strategy difficult. Several federal agencies (FEMA and NOAA), state agencies (California Adaptation Planning Guide), international institutions (GIZ), and NGOs (National Wildlife Federation) have developed climate hazard or vulnerability assessment and/or adaptation planning guidance and methods. Industry and sector-specific tools and literature are also available from a multitude of sources. No single option can meet the diverse adaptation planning needs of cities and counties across the US, but the range of sources also presents local jurisdictions with the challenges of selecting a methodology, building climate literacy, and using their assessments to inform multiple goals, plans and projects.

The Requirements

In California, legislation exists that actively seeks to promote the integration of adaptation and resilience into local planning processes. Senate Bill No. 379 Land Use: general plan: safety element (Jackson) (SB 379) calls on local governments in California to incorporate adaptation and resilience strategies into the Safety Elements of their General Plans as well as their local hazard mitigation plans starting in 2017. Assembly Bill No. 2140 General plans: safety element (Hancock) enables local jurisdictions to adopt a local hazard mitigation plan as their safety element, facilitating integration of hazard mitigation into General Plans.

To support local governments’ implementation of SB 379, the Governor’s Office of Planning and Research recently issued draft guidelines for integrating climate considerations into Safety Elements. The draft guidelines build on the State’s Adaptation Planning Guide (2012) and emphasize the need for communities to adopt a longer-term perspective in preparing for climate risks. They also highlight the importance of identifying linkages and complementarity across different elements of the General Plan and other relevant plans. Thus, there is a need to unify and streamline efforts to boost resilience and integrate adaptation comprehensively into city and county planning in a way that leverages local capacity and resources, uses the best available science and data, and meets local needs as well as relevant requirements.

It is important to note that these requirements are in addition to local commitments and planning processes that each come with their own timelines and demands. Cities that commit to voluntary agreements, such as the Global Covenant of Mayors are required both to reduce greenhouse gas emissions and address the impacts of climate change by identifying climate hazards, assessing vulnerabilities, and developing adaptation plans. Cities may have adopted several plans that integrate or overlap with climate planning, such as Climate Action Plans, Adaptation Plans, Resilience Strategies, Transit Oriented Development Strategies and more. Adaptation has a crosscutting role to play across all these forms of city planning, so comprehensive integration of risk and vulnerability assessment and adaptation action is essential.

Towards a Solution

In support of implementation of integrated climate adaptation planning, Four Twenty Seven has developed a streamlined process to support local governments in their efforts to integrate climate risks into key planning efforts, such as local hazard mitigation plans, general plans, and climate action plans. Through our work for seven cities in Alameda County, on behalf of the County waste authority, StopWaste, we designed an assessment process and report to help cities meet the requirements of SB 379. For each city, this work responds to these requirements and others by providing a climate hazard exposure analysis and proposing a set of adaptation options to help each city plan for future conditions.

The assessment and report are designed to be applicable to multiple cities and useful for multiple planning processes. The objective is to develop one hazard assessment and set of adaptation actions that can fulfill or inform multiple city demands and decision making processes. In this case, the hazard assessment focused on asset-specific exposure, however, the methodology could be expanded to include the other components of vulnerability – adaptive capacity and sensitivity – in order to meet the needs of other jurisdictions and planning processes while promoting an accessible and streamlined approach to climate hazard assessment and adaptation planning. The second blogpost in this series on local adaptation planning will discuss climate hazard assessment in greater detail, and the third blog in the series will focus on adaptation planning.


Find ideas for successful planning in Four Twenty Seven’s Process Guide on local adaptation planning and a case study on our work in Alameda County

Audio Blog: The Changing Landscape of Climate Risk Disclosures

Market expectations on corporate climate risk disclosures are fast changing as corporations, investors, and regulators are attempting to increase efficiency and strengthen economic resilience through more transparency. This panel discussion, held at the 2017 Climate Leadership Conference on March 1, 2017, provides an overview of recent developments by US and EU regulators and Bloomberg’s Task Force on Climate-related Financial Disclosures. Panelists shared how they are responding to the new regulatory context, challenges and opportunities arising from understanding climate impacts on business and markets, and expectations for further developments.

Panelists:

  • Emilie Mazzacurati, Founder & CEO, Four Twenty Seven (moderator)
  • Laline Carvalho, Director of the Financial Services Ratings Group at S&P Global
  • Tim Dunn, Founder and Chief Investment Officer, Terra Alpha Investments LLC
  • Mardi McBrien, Managing Director, Climate Disclosure Standards Board
  • Richard Saines, Partner; Head of North American Climate Change & Environmental Markets Practice, Baker McKenzie

You can listen to a recording of the panel here. Note that due to a technical issue with the recorder, the introductions from Laline Carvalho and Tim Dunn were unfortunately not captured.

For more information about the Taskforce on Climate-related Financial Disclosures, read our blog posts:

You can also watch our webinar discussing TCFD next steps, and issues to consider for implementation.

New EU Directive Requires Pension Funds to Assess Climate-related Risks

EU FlagOn December 8th, 2016 the EU adopted a new regulation regarding Pension Funds, the IORP II Directive — the successor of the Institutions for Occupational Retirement Provision Directive adopted in 2003. The directive’s main objectives are to enhance pension funds’ governance, risk management and supervision, and to facilitate cross-border activities.

A key feature of the directive is the consideration of environmental, social and governance (ESG) factors as part of pension providers’ investment. In particular, pension providers are now required to carry out their own risk assessment, including climate change-related risks, as well as risks caused by the use of resources and regulatory changes.

Moreover, the Directive explicitly allows pension funds to take into account ESG factors in investment decision-making, within the ‘prudent person’ rule. This comes as an important clarification as fiduciary duty is often cited by investors as a reason they cannot pay more attention to ESG issues in investment processes.

The implementation of the Directive

IORP II applies to all the 14,358 registered EU pension funds, among which 160 have cross-border activities.

Member States (EU countries) have until January 13, 2019 to transpose IORP II into their national law, which was published early January in the Official Journal of the European Union. According to current projections, the implementation deadline should therefore fall before Brexit, an important fact considering that the UK accounts for 50 percent of the EU occupational pension fund sector, followed by the Netherlands (33 percent).

A new risk assessment covering climate-related physical risks

The risk assessment is to be carried out every three years or after any significant change in the risk profile of the pension funds “in a manner that is proportionate to their size and internal organization, as well as to the size, nature, scale and complexity of their activities”.

The assessment must cover “new or emerging” risks, “including risks related to climate change, use of resources and the environment, social risks and risks related to the depreciation of assets due to regulatory change”.

The Directive’s preamble invites EU member states to use the Principles for Responsible Investment (PRI) as a reference for ESG and climate change-related reporting requirements and states that “the relevance and materiality of environmental, social and governance factors to a scheme’s investments and how they are taken into account should be part of the information provided by the scheme under this directive”.

While physical impacts of climate change are not mentioned in these terms, the inclusion of risks related to climate change, use of resources and social risks clearly point to the inclusion of physical impacts, in addition to regulatory and energy transition risks. National transpositions might provide more explicit guidance.

Beyond compliance considerations, pension funds are particularly exposed to climate risks given their long-term investment profile. The longer an asset manager’s time horizon, the more climate-related risks increase. As pension funds also tend to be particularly risk-averse, taking into account climate-related risks is crucial for effective risk mitigation. In 2015, the Economist Intelligence Unit valued the average expected loss as a result of climate change across scenarios as $4.2tn in financial assets.

Considering that EU pension funds now manage more than €2.5 trillion ($2.65 trillion) in combined assets, the assessment of physical climate risks will require considerable effort to access raw climate data at asset level, select appropriate indicators, and interpret the output.

Climate-related regulatory efforts gaining momentum

The adoption of this new climate risks mandatory disclosure at EU-level follows the adoption of an pioneering climate risk reporting law for asset managers and asset owners in France, discussed in a previous post, and occurs almost concomitantly with the release of the Task Force on Climate-related Financial Disclosures (TCFD) Phase II Report discussed  in a policy brief and a webinar.

European central banks and financial regulators are increasingly aware of the threat to financial stability of sudden market adjustments caused by climate-related risks. The concern is that the scale of impacts would pose a systemic risk to the financial system as a whole. A growing number of public institutions are paying attention to this issue including De Nederlandsche Bank; the Bank of England; Finansinspektionen; the SEC and the ESRB.


Four Twenty Seven helps investorsFortune 500 companies and government institutions understand how to quantify and monetize climate change impacts on operations as well as social factors that affect their value chain. Our clients rely on Four Twenty Seven’s tools and models to factor into financial and operational planning processes. Learn more about how we are helping our clients assess and adapt to climate risks.

 


You can find the full text here and the impact assessment made by the European Commission here

A handbook by Lane, Clark & Peacock on the IORP II

 

TCFD Key Recommendations for Climate Risk Disclosure

The Financial Stability Board’s Task Force on Climate-related Financial Disclosures (TCFD) is an industry-led task-force established at the December 2015 G20 summit for improving voluntary financial disclosure of climate-related risks. Eight months after the release of its Phase I report (discussed  in a policy brief), the TCFD published a comprehensive set of recommendations on December 14 in its Phase II report. The recommendations provide detailed guidance for companies on how and what to integrate in their financial climate risk disclosure. These recommendations are categorized into four different components: Governance, Strategy, Risk management, and Metrics.

Core Elements of Recommended Climate Risk Disclosures

Governance

The first set of recommendations relates to the organization’s governance for addressing climate-related risks and opportunities.

At the board-level, TCFD report recommends disclosing how and how often is the board informed about climate-related issues, whether it integrates them when reviewing, guiding, monitoring the organization’s activities, and how it oversees progress against goals and targets for addressing those issues.

At the management-level, the TCFD suggests disclosing whether the organization has assigned climate-related responsibilities to management-level positions, what those responsibilities entail and how they are reported to the board. Just as for board-level, the report also invites organizations to describe processes by which management is informed about climate-related issues and how it monitors them.

Strategy

The second set of recommendations covers how climate-related issues may affect an organization’s businesses, strategy, and financial planning over the short, medium, and long term.

TCFD recommends organizations state what they consider to be the relevant short-, medium-, and long-term horizons, according to the nature of their assets / infrastructure, then identify the specific climate-related issues that could have a material financial impact on the organization for each time horizon and by distinguishing between physical and transition risks. According to the report, the risks and opportunities should be assessed by sector and geography when appropriate, and the methodology used should also be described along with the assessment.

Based on the above recommended disclosure, TCFD suggests disclosing as a first step how identified climate-related issues have already impacted the organization’s:

  • businesses, strategy and financial planning
  • products and services
  • supply chain and/or value chain
  • adaptation and mitigation activities
  • investment in R&D
  • operations, by types and location

As a second step, the report recommends assessing how the organization’s strategy is likely to perform under various climate-related scenarios and how what actions are subsequently taken to mitigate risks and take advantage of opportunities.

Risk management, metrics and targets

The last sets of recommendations relate to how the organization identifies, assesses, and manages climate-related risks, including the metrics and targets used.

The TCFD suggests disclosing the processes implemented within the organization for assessing the potential size and scope of identified climate-related risks, for managing those risks (be it through mitigation, transfer, acceptance or control) and for prioritizing them. More specifically, the organization should explain how materiality determinations are made.

According to the TCFD, organizations should consider providing the key metrics used to measure and manage those risks, especially metrics associated with water, energy, land use, and waste management where relevant, as well as the organization’s internal carbon prices. All metrics should be provided for historical periods to allow for trend analysis, along with a description of the methodologies used to calculate them.

Moreover, the TCFD recommends setting climate-related internal targets, such as those related to GHG emissions, water usage, energy usage, etc., but also efficiency goals, financial loss tolerances, or net revenue goals for products and services designed for a low-carbon economy. Targets description should detail whether the target is absolute or intensity based, time frames, key performance indicators and methodology used to assess progress against targets.

Examples of climate-related risks and their potential financial impacts

The report provides examples of physical and transition risks, along with their potential impacts on the organization’s finance.

Examples of climate-related risks and their potential financial impacts

The main challenge ahead: Identifying risk at asset-level

The process of scanning assets for physical climate risk exposure will require considerable effort and challenges, from accessing raw climate data at asset-level, to selecting appropriate indicators and time frame, and interpreting the output while accounting for climate data’s unique complexity and sources of uncertainties.

To support corporations and investors looking to identify hotspots and quantify value at risk in their portfolio of assets, facilities or across their supply chain, Four Twenty Seven has developed a suite of enterprise applications that provide rapid, cost-effective screening across portfolios of 10,000+ assets.

Learn more about CREST, our Climate Resilience Support Tool for corporate climate risk management, and our climate data analytics services for financial institutions.

Art. 173: France’s Groundbreaking Climate Risk Reporting Law

National Assembly, Paris, FranceIn the fall 2015, in the run up to COP21, France became the first country to pass a law introducing mandatory extensive climate change-related reporting for asset owners and asset managers, the Energy Transition Law and its now famous Article 173.

The reporting obligations set out under Article 173 and its implementing decree have potentially far-reaching implications, requiring institutional investors to report on the integration of both physical risks and ‘transition’ risks caused by climate change on their activities and assets.

Whom Does Article 173 Apply To?

Article 173 addresses publicly traded companies, banks and credit providers, asset managers and institutional investors, the latter being listed as insurers, pension or mutual funds and sovereign wealth funds, with differentiated reporting obligations depending on their size and nature.

The law applies to French companies, meaning that French subsidiaries of large financial groups are potentially subject to requirements that do not apply to their parent companies.

What Must the Climate Change-Related Reporting Include?

A comply or explain approach

The law provides investors with broad flexibility in choosing the best way to fulfil the objectives, based on a comply or explain approach. It does not impose any specific method, giving leeway to find the reporting methodology suiting best the investment portfolio, for example reflecting specific asset classes or subsidiaries. However, investors must provide information and justification on the methodology used. They are encouraged to draw from current best practices. An assessment of the implementation will be carried out after two years, at the end of 2018, and the best-in-class approaches will be promoted.

Differentiated requirements

Banks and credit providers will be subject to regular stress tests including a climate change component.

Publicly traded companies’ annual reports must disclose the financial risks related to the effects of climate change, the measures adopted by the company to reduce them and the environmental impact of the company’s activities and of the use of goods and services it produces.

Asset managers managing funds below 500 M€ and institutional investors with balance sheets below 500 M€ must report on the implementation of their ESG policies.

Asset managers managing funds above 500 M€ and institutional investors with balance sheets above 500 M€ are subject to extended climate change-related reporting obligations (besides their ESG policies). Those obligations are two-fold:

  1. Assessment of the portfolio’s exposure to climate change-related risks, including both physical risks (physical impact of climate change) and transition risks (impact of the transition to a low-carbon economy).
  2. Assessment of the investor’s contribution to meeting the international and national low-carbon goals, including the low-carbon targets set by the the investor itself and the actions taken to achieve these targets.

While Asset management companies have to report separately on each of the above 500 M€ funds they manage, institutional investors must provide a consolidated reporting on their assets.

Note that institutional investors may have a commercial relationship with asset management companies via dedicated funds and/or management mandates. Therefore, asset management companies may be directly or indirectly affected by Article 173, via their institutional investor clients. The terms and conditions of access to ESG information required by institutional clients to meet their own Article 173 reporting obligations are to be defined in the contractual relations between them and the asset management companies involved.

Though investors are free to choose which exact data to report, the implementing decree suggests including the following information:

  • The consequences of climate change and extreme weather events on the assets
  • Changes in the availability and price of natural resources
  • Policy risks related to the implementation of national and international climate targets
  • Measures of past, current or future emissions of GHG (both direct and indirect)

As mentioned above, all assessments must come with an explanation and justification of the methodology used.

As of now, 60 institutional investors are subject to the latter reporting requirements.

The Assessment of Climate Change-Related Physical Risks

What really makes Article 173 groundbreaking is the reporting obligation on climate change-related physical risks. The inclusion of physical impacts of climate change in a financial risk analysis is in line with the industry-led Task Force on Climate-related Financial Disclosures (TCFD) recommendations report, released on December 2016 and discussed in a policy brief and a webinar.

While traditional climate-related reporting focuses mainly (if not exclusively) on the impact of the organization’s activities on climate change, the French Energy Transition Law is truly pioneering as it also emphasizes the impact of climate change on the organization’s activities and assets. This new focus meets the demand of investors for enhancing financial risks assessment through taking better account of climate-related risks.

A Ripple Effect

The French government is hoping for a ripple effect, both internationally and on a national level, across the investment value chain. The service providers of eligible investors are already considering how to enhance their ESG and climate reporting practices in order to meet their clients’ demands and comply with the law.

Moreover, climate-related regulatory efforts are gaining momentum. Article 173 is expected to be the first of a series of national equivalent regulatory frameworks among the G20 countries. The TCFD was established shortly after the Law passed, at the December 2015 G20 summit, and explicitly offers its guidance for compliance with Art. 173.

In March 2016, the Dutch central bank DNB announced it was taking steps to monitor and mitigate climate risk. Last November, the European Union has issued a directive requiring all EU-based pension funds to assess for climate change risk.


Four Twenty Seven helps investorsFortune 500 companies and government institutions understand how to quantify and monetize climate change impacts on operations as well as social factors that affect their value chain. Our clients rely on Four Twenty Seven’s tools and models to factor into financial and operational planning processes. Learn more about how we are helping our clients assess and adapt to climate risks.


Documents
A handbook on Article 173 published by the French SIF

By Delphine Ly, Climate Analyst at Four Twenty Seven