Contributed by The ESG Group at Silver Leaf Partners, courtesy of Managing Partner, Michael J. Scanlon.
Carbon Pricing and Global Trading
“Carbon Pricing” is a market-based instrument for greenhouse gas (GHG, or “carbon”) emission reductions. By putting a price on carbon, it creates incentives to develop new, cleaner energy technologies. There are two popular ways to put a price on carbon: carbon tax and cap-and-trade. While carbon taxes fix the price of pollution but leave the amount of pollution uncapped, emissions trading programs fix the quantity of pollution with the market setting the price. Both carbon pricing schemes have their own pros and cons regarding their effectiveness in reducing carbon emissions. However, for investors who are looking for direct exposure to global decarbonization efforts, cap-and-trade presents a unique investment product – carbon permits.
In a cap-and-trade scheme, governments at regional, national, or international levels set an overall limit or cap on the amount of allowable GHG emissions. Carbon permits are then issued or auctioned up to the agreed limit. Issued permits never expire, and companies can trade their excess permits on the carbon market for cash.
Carbon pricing in practice: The European Union’s Emissions Trading Program (EU ETS) is the world’s largest and most liquid trading program, created as a means for Europe to meet its Kyoto Targets. Looking at the historical prices of EU-ETS carbon permits, there was a sharp drop in the market prices following the European debt crisis and an increase in renewable penetration. However, the prices have bounced back since 2017, mostly thanks to the EU putting a Market Stability Reserve (MSR) that cut supply faster than historic market shocks. The Californian Carbon Allowance ETS system has a unique design that features a legislated price floor and soft cap that increases at 5% plus inflation year-over-year. The system creates an environment where the price for emitting carbon has a stable and controlled increase over time.
Overall trend: The market for this new asset class is rapidly evolving as cap-and-trade programs become more popular, with jurisdictions making up 37% of the world GDP using emissions trading. Each ETS market has its rules and set up to determine the price of carbon. In 2019, global carbon market prices worldwide ranged from $1‐$30 per ton of carbon (tCO2). It is estimated that global carbon prices need to be in the range of “at least US$40–80/tCO2 by 2020 and US$50–100/tCO2 by 2030” to deliver the Paris Agreement goal. This suggests that there is still much more upward movement in the carbon market for investors looking at the space.
Contributed By: Trang Ngo, SLP-ESG Analyst, MPA (May 2020 Columbia School of International and Public Affairs)
ESG Investing in China?
As the first country that is now growing its economy after COVID-19, China’s economic recovery has continued to see positive growth across most sectors. Although 2020 started with an economic shock, the pandemic also provided an opportunity for the capital markets in China to identify and re-evaluate equities and assets with a longer-term outlook. Increasingly, they are seeking to generate consistent competitive financial returns as well as deliver sustainable impacts. Is the time coming for ESG in China? We are intrigued to find out what the ESG learning curve will look like throughout China over the next several years, and we set out here to highlight some of the challenges and opportunities.
ESG and Alpha in China: Per a report by UN PRI in March 2020, asset managers in China are increasingly developing ESG strategies. Meanwhile, in the global market, MSCI has begun partially including more China A-shares companies in its flagship global and emerging market benchmark indexes. ESG integration in China is seen as a source of investment value. Asset managers in China are increasingly developing a variety of ESG strategies.
A Franklin Templeton Emerging Markets Equity Article points out some of the differing ESG standards and issues in China that are still far from the well-established practices in North America and Europe/UK. However, we are seeing in China where ESG disclosures are starting to rise: an increasing number of domestic ESG-themed funds have emerged; and a higher ESG awareness is among large-cap companies. Foreign institutional investors have seen a greater participation in the China A-share market as well, but China is not yet an ESG-ready market, as disclosures still remain fairly weak.
Green-pledging or Greenwashing: As related to the “E” (environment) elements, it was exciting that Xi Jinping, China’s president, made the commitment to the achievement of carbon neutrality by 2060 at the UN General Assembly. However, Mr. Xi has not revealed any specifics on how China will approach this ambitious target. Moreover, China is planning to construct a set of new coal power plant projects. A recent study found that China’s eight main energy-consuming and producing provinces are allocating the equivalent of hundreds of billions of dollars to fossil fuel projects, including coal power plants, coal-to-chemical plants, oil refineries and other high-carbon capacity projects. These could be part of the recovery plan of provincial authorities after COVID-19, similar to what China did after the 2008-9 global financial crisis.
As for the “S” (social) aspects in China, a grave issue that cannot be overlooked is the ongoing human rights allegations in Xinjiang. Within the context of labor, red flags have gone up for many industries for profiting from forced Uighur labor , from top global fashion brands, to the solar supply chain, to face mask production. Supply chain labor abuse is of great importance among “S” factors, and “social washing” has become a new threat for ESG investors in this time of COVID-19.
The “G” (governance) area leads the way in terms of company disclosure. Companies, mostly in the private sector, are establishing stricter governance standards, while state-owned enterprises (SOEs) are lagging behind. ESG issues have gained the attention of Chinese authorities as well, which will be an important driver for ESG in China in the near future. But for now, in-depth ESG applications are still in the early stages, and being driven by the private sector. For example, global asset manager Schroders is now set to create a green finance center in Singapore to house its ESG specialists. The regional Centre of Excellence for Sustainability will aim to develop the ESG capabilities of Schroders’ staff in Asia as well as host training programs for both local and regional clients. In just this effort alone they are being joined by BNP Paribas, Fullerton Fund Management, UBS and Bank of China.
We will continue to explore of the progress of ESG investing in the Chinese market. One area we will continue to track is the huge growth of wealth continuing to be created through the economic successes of so many companies. A recent report points to the fact that there are 878 Chinese billionaires (US 626) and around 2,000 individuals with a net worth of more than 2 billion yuan ($300 million) in August, giving them a combined net worth of $4 trillion. Many are pure entrepreneurs, and they will be critical in helping establish better and more ESG compliance at various levels going forward.
Contributed By: Laurel Jiang, SLP-ESG Analyst, MPA (May 2020 Columbia School of International and Public Affairs)
ESG Will Be Essential to the Asset Management Industry in the New Decade
This new decade from 2020 – 2030 will see a massively changing world; both climate-wise and through the movement of socially and economically large pockets of citizens.
Will the Asset Management industry also change or will the inertia of 50+ years of traditional stocks and bonds strategies hold the industry back? We know that we have seen how Alternative investments have grown from no Hedge Funds or Private Equity funds in the 1960s and 70s to over 20,000 in the early 21st century.
Here are some opinions we hope our ESG / Sustainable Institutional Investors will ponder and appreciate. From different categories, both traditional and alternatives of the ‘big money flow’, we share with you a bank’s perspective first, followed by those of some big asset owners, and lastly from the traditional Money Management Institute, including their look at this “ Sustainable Finance Decade”.
1. Our friends @ MUFG have provided a valuable service in their recent survey of Institutional Investors. Two significant themes jump out. First, is that more than half of institutional investors are focusing on ESG investing for their dedicated portfolios or for their “strategic commitments”. Second, besides the new focus on ESG / Social / Sustainable bonds through traditional instruments, new financing structures are being developed and utilized to allocate investments aligned with the UN Sustainable Development Goals (SDGs) – including linked and transition bonds.
2. There are the forward-thinking EU Asset managers and Investors who follow the leadership of Hedge Fund billionaire, Chris Hohn. Per the Financial News article (https://www.fnlondon.com/articles/hedge-fund-billionaire-chris-hohn-asset-management-industry-is-a-joke-on-climate-change-20201023):
“ESG for most asset managers is a total greenwash and investors need to wake up and realise that their asset managers talk but don’t actually do,” said Hohn. The billionaire founder of TCI Fund Management, a $30bn hedge fund, made the comments on a Global Summit webinar addressing shareholder activism and ESG investing on 22 October. “The asset management industry is a joke in respect of what they’re actually doing,” Hohn added. The asset manager unveiled a £2bn climate fund with UK insurance giant Scottish Widows, and put 191 companies “on watch” over climate-related risks. It also joined Climate Action 100+, the world’s largest group of investors by assets involved in pressuring companies to act on climate change.
3. On Friday (October 30, 2020) the Department of Labor issued a restrictive final rule regarding the consideration of ESG factors by ERISA plan fiduciaries. At a recent Money Management Institute event, panelists addressed the implications of the rule:
“Heather Slavkin Corzo, the head of U.S. policy at the Principles for Responsible Investment (UN PRI), said the implementation of the rule would likely come late enough in the year that Congress could overturn it via the Congressional Review Act, which enables Congress to strike down federal regulations if enacted within 60 legislative days. The rule was harshly criticized during the public comment period by many investment professionals; of the 229 comments from professionals, 94% were opposed to the limitations, including from significant asset management firms like BlackRock. Corzo speculated that some of these critics may sue the DOL if the rule proceeds. The panelists also discussed the pros and cons of ESG investing; Alicia H. Munnell, the Peter F. Drucker professor at Boston’s College Carroll School of Management and the director at the college’s Center for Retirement Research, disagreed with using ESG investment strategies, particularly in public pension funds. She believed it was the latest iteration of active management and argued that numerous studies showed active management consistently led to lower returns. Corzo agreed that asset allocation was likely only to imbue changes at the margins, and that the broader social and environmental issues would likely demand policy solutions. But she stressed that ESG factors could be financially material to the performance of a fund as it seeks to mitigate risks stemming from environmental or social disruptions. Corzo said she was worried about the impact of a regulation that inhibits that kind of scrutiny.”