Cop26 Perspectives

The ESG Interview: In Search of Perfect Harmony

Giel Linthorst, Executive Director, Partnership for Carbon Accounting Financials, says the road to global standards on climate reporting has much further to go.

One of the biggest complaints for ESG investors is a lack of standardised data on greenhouse gas (GHG) emissions. There is no shortage of tools to measure carbon output and climate risk, but without harmonised methodology and reporting, Angel Gurría, secretary-general of the Paris-based OECD, says investors are “getting a fragmented and inconsistent view of ESG”.

The scattergun approach from corporates in providing their ESG data, not helped by proliferation of groups touting their net zero carbon credentials, also hinders the chances of financial institutions meeting the targets set out in the Paris Agreement on climate change.

Clearly, this is not a trivial matter. Moody’s recently published new data showing that G20 financial institutions have nearly US$22 trillion of exposure to carbon-intensive sectors. On balance sheet bank loans account for US$13.8 trillion (60%), and asset managers’ equity holdings for US$6.6 trillion (30%). Large rated insurers’ invested assets, which are weighted towards cash and government securities, account for the remainder (US$1.8 trillion).

Transparency and accountability

The Partnership for Carbon Accounting Financials (PCAF) is among the organisations attempting to harmonise the way asset managers, pension funds, banks and insurers assess and disclose GHG emissions, and is credited with formulating an accounting standard tailor-made for the financial sector.

Giel Linthorst, PCAF’s Executive Director, says: “The main principle behind PCAF is transparency and accountability. The financial sector has a key role to play in financing the transition to net zero, but institutions can only play that role if they measure what matters.”

The standard provides clear data on the amount of emission generated by the underlying asset in which the financial institutions invest. This in turn means they can disclose their own GHG emissions exposure across their portfolios and, as PCAF says, identify climate-related transition risks and opportunities, and set the baseline for target setting in alignment with the Paris Agreement.

The standard provides detailed guidance for six asset classes:  project finance; commercial real estate; listed equity and corporate bonds; mortgages; business loans and unlisted equity; and motor vehicle loans. By following the methodologies for each, financial institutions can measure GHG emissions for each asset class and produce disclosures that are consistent, comparable, reliable, and clear.

Linthorst says that the absence of harmonised methodologies and reporting rules has led to “poor uptake of the accounting of financed emissions and inconsistent disclosures across financial institutions”.

Further, attempting to bring together myriad organisations associated with the transition to net zero and then align them with the Paris Agreement on climate is no small undertaking, but PCAF has made rapid ground.

It has taken just five years from PCAF’s creation as an alliance between Dutch pension funds calling for financial institutions to measure and disclose the GHG emissions of their loans and investments to establishing a globally recognised GHG accounting standard in 2020. PCAF is now home to almost 160 financial institutions with over US$50 trillion in assets and is embedded in the Task Force on Climate-related Financial Disclosures (TCFD).

Linthorst says: “The adoption of the standard into other frameworks and regulations is very positive, and I didn’t expect that to happen so fast.”

Breaking new ground

PCAF’s steering committee comprises banks, financial institutions and asset owners via the UN-backed Net Zero Asset Owners Alliance (NZAOA), and there is additional input from many other organisations also focused on improving emissions transparency, including the Carbon Disclosure Project, the Paris Aligned Investment Initiative and the Science Based Targets initiative.

This varied input ensures that voices from each part of the financial sector are heard.

Linthorst says “We build up partnerships to ensure that every institution is using the same instruments and measuring [emissions] in the same way. That is why PCAF partnered with the NZAOA , to make the link between pension funds, asset managers and us.”

Most recently PCAF has teamed up with the Net-Zero Insurance Alliance to form the Insured Emissions Working Group, which will develop “an urgently needed” standard to measure and disclose insured GHG emissions.

PCAF is also set to expand into China. Last month the partnership presented to financial institutions in Shenzhen raising awareness of the advances made in GHG accounting.

Linthorst remains tight-lipped on details of the collaboration but suggests news is imminent.

He says: “There is pressure on Chinese financial institutions to get started on measuring emissions, but they don’t have the accounting in place. We would like to bring in the knowledge we have already built up on GHG accounting, so they can adopt that to Chinese market.”

Free for all

While PCAF is full steam ahead with expansion into new geographies and financial sectors, there remain obstacles to harmonisation, which cause Linthorst obvious frustration. Most notably is financial institutions’ inability to access key emissions data.

He says: “The problem is not data availability but the accessibility. For example, we all get an energy bill which measures our consumption and that can translate to energy emissions. But financial institutions can’t get to that information, and we need to arrange it so they can.”

Linthorst says it is down to policymakers to make the data available, and he appears confident that there will be a single access data point in Europe.

He points to the proposed Corporate Sustainability Reporting Directive, which will require companies employing more than 500 people to report material sustainability information, as an indication of regulators’ support for improving data access, particularly Scope 3 emissions.

However, Linthorst adds: “Data should be stored in a freely available database. If it comes from third-party data providers, financial institutions will have to pay for it. Policymakers play a critical role in supporting that open-source data availability.”

Bold commitments

Linthorst’s expectations of policymakers extends beyond open-source data. As the COP26 Summit approaches, he wants to see “bold commitments” to meeting the Paris climate targets.

“PCAF was born on the train from the Netherlands to Paris as pension funds travelled to the 2015 Paris summit. They handed over a pledge to the Dutch environment minister saying that they would do their best to transition to net zero, but that policymakers must step up and do their bit. That is still the case today.”

Linthorst wants governments to use COP26 as a platform to raise their ambitions and adopt policies better able to meet 2050 net zero goals.

He is optimistic that delegates at the November summit will be able to build on the momentum already evident thanks to the “strong leadership of [UN Special Envoy on Climate Action and Finance] Mark Carney in leading the Glasgow Financial Alliance for Net Zero”.

Linthorst adds: “There is already a huge number of financial institutions that are aiming for net zero and I am impressed by the power the sector has in driving the transition,” he says.

Optimism aside, Linthorst is realistic about the work PCAF has ahead in meeting its goal of securing support from 250 global institutions by 2022.

However, he concludes: “Every financial institution has experienced impact on their portfolio from climate change. They see the risks and they are aware they need to sign up.”

The practical information hub for asset owners looking to invest successfully and sustainably for the long term. As best practice evolves, we will share the news, insights and data to guide asset owners on their individual journey to ESG integration.

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