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Commentary

A More Impactful Approach to Decarbonisation

Emissions attribution analysis is key to understanding the drivers of portfolio decarbonisation, say Elke Pfeiffer, Sustainable Transformation Lead, Allianz Investment Management, and Moreno Capretti, Investment Analyst, at Intesa Sanpaolo Vita.

In an era defined by the urgent need for climate action, both asset owners – such as pension funds and insurance companies – and asset managers are called to support a just transition to net zero. Importantly, the call is for real-economy decarbonisation rather than ‘paper decarbonisation’, as investment portfolio re-allocation has sometimes been called.

However, real economy decarbonisation is not taking place at the speed required to prevent global warming. As a result, investors, particularly those with legacy portfolios, may need to re-allocate their holdings towards low-carbon investments to reduce risks and identify opportunities for long-term sustainable returns.

Given that many asset owners and asset managers have already ‘picked’ the majority of low-hanging fruit by directing substantial portions of their liquid assets towards climate leaders, institutional investors now need to carefully analyse the factors driving portfolio decarbonisation, to ensure that their efforts are sufficient to achieve their climate goals.

This is where emissions attribution analysis comes in – it sheds light on the hidden drivers behind changes in a portfolio’s carbon footprint.

Recognising the potential of attribution analysis, the UN-Convened Net-Zero Asset Owner Alliance – a group of asset owners committed to achieving net-zero emissions by 2050 that both Allianz and Intesa Sanpaolo Vita Insurance Group are members of – has released a discussion paper on emissions attribution analysis, which delves into the nuances of different methodologies, their rationales, and the boundaries of the currently available emissions attribution analysis.

Emissions attribution analysis empowers investors

Emissions attribution analysis is a sophisticated methodology that empowers investors to identify the key contributors to their portfolio’s carbon footprint. It meticulously dissects the factors responsible for past decarbonisation, revealing whether it stems from portfolio reallocation, real-world emissions reduction by investee companies, or other external factors – such as shifts in enterprise value/revenues or changes to portfolio coverage.

This analysis closely mirrors that of performance attribution, although it uses an initial portfolio for a comparison, where performance attribution uses a market benchmark. Instead of returns, emissions attribution analysis focuses on carbon intensities of investee companies. The third layer of analysis serves to dissect constituent’s emissions intensities into its components – carbon emissions and enterprise value or revenues.

What can it uncover?

A few factors can cause the carbon footprint of an investment portfolio to change.

First is portfolio composition – the landscape of sectors and companies held in a portfolio. If there is a shift towards low-emitting companies and away from high-emitting companies, a portfolio will decarbonise.

Investee companies’ emissions and their decarbonisation paths are another factor. A reduction in emissions of a portfolio company leads to portfolio decarbonisation and this is indeed its most favourable driver.

The value or balance sheet of companies in a portfolio can also play a role. Let’s take an example of a high-emitting company whose value or balance sheet increases while its absolute carbon emissions remain stable; the company’s carbon intensity will decrease, leading to a drop in the carbon footprint of the portfolio (assuming investment allocation remains the same).

Finally, changes in the availability and accuracy of emissions data can also change the carbon footprint of an investment portfolio.

To uncover whether and to what extent any of these factors are contributing to decarbonisation, a layered approach is mostly used. This approach breaks down the analysis into three layers, taking into account how different factors interact with each other, and thus giving investors the most accurate picture of how their portfolios are decarbonising.

From strategy refinement to trust-building

By identifying the key drivers of portfolio decarbonisation through emissions attribution analysis, investors can refine their strategies and focus on the most impactful decarbonisation approaches.

The insight that the analysis offers opens up quite a few channels of investor influence. For example, it provides asset owners with a transparent and data-driven tool to assess the decarbonisation performance of their asset managers. As such, it can help foster constructive dialogue and collaboration between investors and asset managers. Similarly, the analysis allows for a comparison of peers within a given sector, which empowers investors to both make informed decisions when engaging with corporates and advocate for more ambitious decarbonisation commitments.

Investors can also provide more granular and transparent disclosures on their decarbonisation progress using the emissions attribution analysis. This enhanced transparency fosters accountability and builds trust among investors, stakeholders, and the public. In addition, carrying out the meticulous calculations involved in the analysis can uncover hidden data quality issues. By identifying and addressing these issues, investors can ensure the integrity and reliability of their decarbonisation data.

No silver bullet

Notwithstanding its potential, emissions attribution analysis does have certain limitations. Firstly, the calculation and the analysis are based on past data, which means that they cannot consider companies’ forward-looking transition planning, for example. However, as this tool informs portfolio steering, it will incentivise asset managers to allocate capital to companies with the most ambitious transition plans, thereby reducing emissions in investment portfolios in the future.

For now, the analysis is typically applied only to corporates. As an asset owner’s portfolio comprises other asset classes – for example, mortgages, real estate and sovereign debt – the analysis needs expanding to asset classes with other carbon footprint methodologies (where the attribution factor is different).

Another limiting element may be an asset owner’s lack of mandate look-through, which would put the responsibility on the asset managers to run the analysis and report back to their client.

What’s next?

As the financial world embarks on the journey towards net zero emissions, emissions attribution analysis emerges as a valuable tool for investors. By illuminating the drivers of portfolio decarbonisation, this methodology empowers investors to make informed decisions, refine their decarbonisation strategies, and hold asset managers and investee companies accountable for their contributions to portfolio decarbonisation.

The Alliance strongly recommends that all investors make full use of the analysis, as it is bound to lead, at the very least, to better-informed portfolio steering that’s in line with investors’ climate goals.

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