Why TCFD matters: Bridging the sustainable investment chasm

James Murray
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Why TCFD matters: Bridging the sustainable investment chasm

Ahead of BusinessGreen's inaugural half day conference on navigating the guidelines from the FSB's Taskforce on Climate-related Financial Disclosures, James Murray explores why the guidelines are so significant

A lot happens in the gap between intention and action. Deadlines missed, diet goals ditched, habitable climates destroyed.

One of the most encouraging trends for the global economy in recent years has been the emergence of a powerful cohort of investors willing to allocate capital in pursuit of long term sustainability as well as short term financial returns. Groups with many trillions of dollars of assets under management have signed up to sustainable investing principles and thrown their lobbying muscle behind calls for bolder environmental policies. Numerous new initiatives have emerged to provide sustainable investors with the transparency and data they need to make informed decisions. The world's biggest asset manager has signalled it is only interested in backing companies with a "purpose" that extends beyond the bottom line.

Best of all, this trend has been driven less by well-meaning, philanthropic concern, and more by the recognition that escalating environmental impacts, emerging climate policies, and disruptive clean technologies have fuelled 'carbon bubble' risks that mean sustainable investment strategies are best placed to deliver attractive long term returns.

And yet for all this encouraging rhetoric and the billions of dollars of green investment that has resulted, there is a problem.  

There may be hundreds of top investors who fully embrace sustainable investment strategies, but there are many more that continue to either ignore sustainability issues altogether or play lip service to environmental factors. There are plenty of big name investors that are genuinely committed to mobilising low carbon investments and divesting from high carbon assets, but for many the gap between stated sustainability goals and proactive investment strategy looks more like a chasm - a chasm that goes a long way to explaining how global efforts to cut greenhouse gas emissions have stalled.

This discomfiting reality was hammered home this week with the publication of Schroders' latest Institutional Investor Study and the confirmation that of the 650 investment managers surveyed 32 per cent said the sustainability focus of an investment had little or no influence on their decision-making.

Yes, 27 per cent said sustainability had a significant influence, and yes 41 per cent said there was a moderate influence. But overall sustainability was one of the issues most likely to be ignored by investment managers weighing up whether to take a punt on a company or not. It seems that when the marketing or sustainability teams are not breathing over their shoulder, the managers working at the 'coalface' of institutional investors are much less interested in environmental risks and opportunities than their employers claim.  

And it gets worse. Because the reasons given for a failure to fully engage with sustainability issues suggest the disconnect between intention and action that is marring the investment industry is not the result of evidence being fairly weighed, but the kind of cultural and organisational inertia that is extremely difficult to shift.

Over three quarters of investors admitted they found investing sustainably at least somewhat challenging, with concerns over the performance of sustainable investments, a lack of transparency, and a difficulty weighing risks cited as the main problems.

It is easy to see how investors have reached this conclusion, because the rarely acknowledged truth is that the sustainable investment space is a bit of a mess.

There are enough acronyms to run through the alphabet several times over. The sector can't even agree on a name with sustainable investment, ESG, SRI, ethical investment, impact investing, and several other monikers all designating subtly different but often overlapping market segments. Reporting rules run the gamut from vague, gossamer touch regulations that are rarely enforced to sweeping new governance regimes that could be interpreted to cover almost anything and everything a company does, such as France's Article 173 climate risk reporting law. At the same time, reporting standards are similarly varied in their reach and requirements, while countless sustainability benchmarks, indices, and other investment tools all draw on different methodologies and metrics.

The net result is that from the best possible intentions a confusing web of information and reports has been spun that makes meaningful comparisons extremely difficult for those investors who want to engage with environmental risks and opportunities, and provides those who wish to pay lip service to the issue with the perfect cover.  

However, thankfully there are reasons to believe these challenges could prove to be nothing more than the teething troubles that were always going to afflict a fundamental shift in a multi-trillion dollar industry.

The same investment managers who told Schroders sustainability was not necessarily a top priority also said - by a ratio of three to one - that sustainable investing would grow in importance over the next five years. Again, it is easy to see why.

A number of factors are combining to push sustainable investment strategies further into the mainstream. The first is the growing evidence that they deliver impressive returns. Study after study shows that companies with solid environmental credentials have a tendency to outperform the market, even before you consider the future risks faced by high carbon assets. The idea you put returns at risk by investing sustainably is an outdated myth.

Encouragingly, there is evidence that a growing band of institutional investors understand this. The Schroders survey showed that sustainability was more likely to influence decision-making where investors held assets for over five years, and those investors that were focused on sustainability were "markedly more confident in achieving their return expectations". Nearly 60 per cent were at least reasonably confident of meeting their expectations, compared to 37 per cent of investors who did not prioritise investing sustainably. 

Secondly, the realisation is slowly dawning - arguably a couple of decades too late - that fiduciary duty extends to sustainability considerations. Rules and regulations the world over require listed companies and investors to disclose material risks and it has long been a bizarre oversight that it is not automatically understood that climate change and other environmental issues are about as material as it gets. The legality of this oversight from investors, pension funds, and businesses could soon be tested by regulators and the courts.

Finally, the technical barriers to sustainability investment are being both recognised and addressed through the crucially important Taskforce for Climate-related Financial Disclosures (TCFD) recommendations. Sometimes, it seems, it takes an acronym to clean up an acronym soup.

BusinessGreen will later this month dedicate its inaugural half day conference to the topic of the TCFDs, because while the guidelines may seem arcane they could provide the lever that both pushes corporate climate action further into the mainstream and closes the gap between investors' sustainability intentions and actions.

The TCFD's recommendations may be voluntary at this stage, but it is possible to envisage governments recognising that investors need more standardised and comparable data, and deciding to take the existing international standard and make it mandatory. More important still, the guidelines recommend businesses address the full breadth of climate related risks, from physical to legislative and market risks, and engage with them through the kind of scenario planning that acknowledges a wide range of different decarbonisation and warming paths are possible.

The beauty of this approach for both investors and the wider green economy is that once businesses have sketched out a range of different climate scenarios and detailed the associated risks, there will inevitably be a ready-made framework for engagement. Investors will be able to say if that is the scenario that maximises opportunities and minimises risks then we want 'a strategy for turning that scenario into a reality'.

The emergence of the TCFDs should provide investors and the companies they invest in with the framework they need to turn good sustainability intentions into meaningful action. And as the Schroders survey this week confirms, such a step-change in investment strategies cannot come soon enough.

The BusinessGreen Leaders Briefing: Navigating the TCFD Maze takes place on the morning of 21st September. Details on securing your place are available here.

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