The global push to net zero emissions has turned decarbonisation into the most dominant investment theme for the foreseeable future, and the transition presents both risks and opportunities for investors, according to Singapore's sovereign wealth fund GIC and global investment manager Schroders.
Their joint research paper details how integrating an ‘avoided emissions’ framework to the conventional carbon metrics can help investors make better decisions in their green transition.
Avoided emissions are emission reductions that occur outside of a product’s life cycle or value chain, but as a result of the use of that product .
Examples of products (goods and services) that avoid emissions include low-temperature detergents, fuel-saving tires, energy-efficient ball-bearings, and teleconferencing services.
The avoided emissions framework is to complement, not replace, conventional emissions measures in investment analysis, a Schroders spokesperson told AsianInvestor.
“While conventional carbon footprint analysis only focuses on the greenhouse gases companies emit through their activities, our framework captures emissions outside the value chain of a company’s activity, when their products and services indirectly save emissions through the substitution of high carbon activities with low carbon alternatives. This is not captured under conventional Scope 1 (direct), Scope 2 (indirect) and Scope 3 (value chain) emission measures.” they said.
“For example, conventional analysis of wind turbine manufacturing would point to its high emissions and fail to recognise the reduction it causes in economy-wide emissions as wind turbines displace fossil fuel power generation, which is also the reason why they will gain from transition to net zero,” said the spokesperson.
HOLISTIC PORTFOLIO ASSESSMENT
Integrating climate change into investment processes involves using new metrics, models and data. According to the research, avoided emissions helps provide a more complete picture of companies’ and portfolios’ contributions to decarbonisation.
As a long-term investor managing $744 billion in assets for the Singapore government, GIC has strived to continuously improve the way it measures and assesses climate-related risks and opportunities.
“When carbon metrics became more standardised a few years ago, we created an internal carbon dashboard to compare the carbon intensity of companies and conduct more granular carbon price stress tests,” a GIC spokesperson told AsianInvestor. “We also started working on climate change scenario analysis when it was still a new and challenging practice in the industry.”
“Avoided emissions provide an additional metric which we believe can help us better identify climate-related opportunities in the market. It can also help us assess our portfolio more holistically by integrating the data with Scope 1, 2 and 3 emissions,” they said.
As outlined in the paper, some carbon target-setting frameworks, such as the Science Based Targets initiative (SBTi), currently do not view avoided emissions as a valid source of emissions reduction but at the same time acknowledge that activities captured by avoided emissions are “critical to society achieving net-zero and should indeed constitute part of a company’s net-zero strategy”.
“We recognise this is still a nascent and evolving area, but an important topic. This underscores our interest and research effort to co-develop this framework with Schroders, with a view to integrate it with further enhancements to the methodology when there is greater data availability and maturity,” said GIC’s spokesperson.
As of now, GIC already views the concept itself as useful in identifying low carbon innovations and technologies that can help to reduce emissions has already made investments in many of the carbon-avoiding activities identified by the paper, including renewable energy, electric vehicles, as well as carbon capture and storage.
OUTPACING THE MARKET
Avoided emissions is not an entirely new concept, and some have criticized the practice as a potential tool for watering down companies’ and investors’ net zero targets. The research paper acknowledges these concerns in the context of target-setting but argues that a disciplined and thoughtful avoided emissions framework can be an important element of net zero targets by governments, companies and investors.
Additionally, the new research highlighted that the industries with exposure to avoided emissions have already begun to outpace the growth of the broader market, said a spokesperson from Schroders.
“We applied the avoided emissions framework to the broad MSCI ACWI Investable Market Index (IMI) stock universe and a focused portfolio of companies in that universe accelerating the low carbon transition,” they said.
“The analysis showed that companies with avoided emissions exposure saw revenues grow by an annualised rate of 7% over the past three years, which is 20% faster than the MSCI ACWI IMI stock universe as a whole.
"This gap in performance is expected to widen as the global impetus to decarbonise is set to continue and will provide a strong tailwind to this growth, “making it all the more imperative for portfolio analysis to include avoided emissions,” said Schroders spokesperson.