Chapter 7 Flashcards
What are the two overarching approches within listed equities that enable investors to align climate-related considerations into investment allocations?
Operational activity versus economic activity
What is a difficulty with equities on alignment?
Capex attribution, although methodologies are emerging
What’s the concern with carbon abatement technologies?
- Uncertain effectiveness and cost
- Not clear that society is better off
- Do not create innovation and behaviour changes necessary to protect business from competition
What is an example of an index targeting thematic climate opportunitie?
FTSE Russell Environmental Markets Index Series. 20% of revenues must be from tier 1 (clear and significant exposure) and tier 2 (net positive impact)
50% tier 1 for FTSE Environmental Technology Index
What is the Scope 3 economic intensity approach under SBTI?
7% annual compounded reduction in scope 3 emissions per gross value added. Assumes all companies are growing in line with the predicted GDP, which is a blunt assumption to make
What has the International Accounting Standards Board said about climate in accounts?
Investor demand is itself a materiality threshold that should compel companies to include disclosures in accounts
Which accounting standards are the mostly commonly employed?
IFRS. Not adopted by US, Japan, or China
Which countries have mandated TCFD reporting?
G7 ans others
Which countries have mandated TCFD reporting?
G7 ans others
What is a key issue with TCFD recommendations?
Full adoption does not equal high quality underlying processes, since no auditing standard
Key difficulty with fixed income versus equity on climate?
Lack of quantity and quality data
Also double counting, e.g. if holding both muni and gov debt
Key difficulty with fixed income versus equity on climate?
Lack of quantity and quality data
Absence of voting rights
Aggregation challenges to avoid double counting
Which institute provides league table of banks ranked by syndication practices on climate?
Anthropocene Fixed Income Institute (NGO), ranked by net green/fossil impact
What is happening to support sovereign engagement?
World Bank organises engagement fora and has issued guidelines for sovereign bond engagement
What’s a key issue with passive climate bond portfolios?
Allocates most to largest issuers, which may not well reflect which technologies are optimal for society in tackling climate change over the long term
Additionally, climate indices increase tracking error from standard benchmarks
What attracted institutional investors to green bond market?
Use of Proceeds (UoP) standards and principles, e.g. Climate Bonds Standard from the Climate Bonds Initiative (and the Climate Bonds Taxonomy as part of this)
Additionally, ICMA’s Green Bond Principles
What trends have occurred in green fixed income markers?
MDBs playing less of a role while sovereign issuances increasing
Energy is largest beneficiary followed by buildings and transport
Who produces guidance for other sustainability linked bonds?
ICMA (also for transition bonds)
What does the EU have on green bonds?
EU Sustainable Finance Action Plan includes proposed European Green Bonds Standard, which draws on EU Taxonomy
What is to note about securing of labelled bonds?
Usually not secured against assets funded by UoP, so no additional credit research required
Strengths of sustainability-linked bonds?
More forward looking than UoP / green bonds
Can engage issuers not committing large capex to individual projects
Can obtain pricing benefits if management estimate that higher chance of achieving KPI than investors expect
Green bonds for adaptation are covered by what principles?
Climate Bonds Intitiative’s Climate Resilience Principles
What 2 sovereign climate metric methodologies are available?
Government expenditure approach - Scope 1 and 2 of central gov activities and related emissions from policy measures (scope 3)
Territorial approach - measurement of emissions from an entire national territory, calculated with either production or consumption approach
Territorial production approach is most popular, as adopted by UNFCCC
What was developed to assess sovereign exposure to climate risk?
PRI’s Assessing Sovereign Climate-related Opportunities and Risks (ASCOR) project. Indicators include emissions pathways, climate politics, and climate finance
Assesses 75 countries in 2024
Differentiated approach for emerging markets
What are the two primary ways climate risks impact fixed income valuations?
- Prevailing market interest rate
- Credit risk premium
Fixed income valuations are what compared to equities?
Less sensitive to climate risk
Similarly, higher credit rates sovereigns are little impacted by credit or climate risk
What are the challenges in considering climate risks within rating agency frameworks?
- Time horizon misalignment. Agencies usually consider only 2-5 year time horizon.
- Lack of granular and plausible forecasts - usually conservative assumptions on policy development due to uncertainty
- Lack of historical data to justify downgrading credit ratings
What are ILS?
Insurance-linked securities, tapping fixed income capital to avoid insufficient equity capital to cover natural disasters
E.g. cat bonds
For investors, not correlated with stock market performance, so can be resilient against economic risks
However, recent performance has Deteriorated and some correlation with reinsurance premia
Challenge with ESG funds and ILS?
Limited “look through” to insured, so difficult to ascertain ultimate beneficiary ESG data
See photo of different issuer base risk versus investor transparency options
See photo
How can the price of cat bonds / ILS be useful?
Indicates society’s changing view of climate risks
If climate risk increases capital requirements for insurance companies, which if the following most directly helps to free existing capital?
Sidecars where reinsurer buys a portion of the policy
WACI calc?
Revise it from specimen paper!!
