A pro-active investment strategy to address climate risks has a demonstrably positive effect on returns, according to new information revealed by the New Zealand Super Fund.

The sovereign wealth fund released a report today (October 7) into how it manages climate-related risk and opportunities in its NZ$45 billion ($30 billion) portfolio. The study concluded that its focus on climate risk has benefited its overall returns. 

“After running the strategy for several years, we haven’t seen an adverse effect on performance,” said chief executive Matt Whineray. “In fact, the carbon exclusion policy has added approximately NZ$800 million ($525 million) to the fund and about 60 basis points per annum to performance since it was brought in (in 2017).

"So not only has this approach reduced what we considered to be an insufficiently rewarded risk, it has also added return.”

Matt Whineray, NZ Super

The core element of NZ Super's de-carbonisation investment strategy is to reduce the carbon intensity of the fund’s investments and its exposure to fossil fuel reserves. In 2016, targets were set to reduce the fund’s emissions intensity by 20% and its ownership of fossil fuel reserves by 40% by 2020.

In June 2017, the fund transitioned its passive global equity portfolio (constituting 40% of the fund) to low carbon, selling holdings in 297 companies. 

Having met its 2020 targets a year early, NZ Super has now set more ambitious targets. It is aiming by 2025 to reduce the emissions intensity of the portfolio by 40% and fossil fuel reserves by 80%.

“We have achieved the targets primarily by adjusting holdings in the fund’s global equity portfolio,” said Whineray.

“We chose this approach given that the global equity portfolio contained the largest concentration of carbon and also because we could adjust these holdings by excluding some companies with high emissions intensity or large potential emissions from reserves without having a major impact on the fund’s diversification strategy.”

BESPOKE METHODOLOGY

The broader fund targets are achieved by applying a bespoke carbon methodology to the portfolio’s physical passive equity holdings.

“We apply a carbon short swap to neutralise our exposure to any companies with high carbon reserves that we incidentally take a position in; for example, when we use an index derivative to complete our passive equity exposure," said Whineray.

“We also ask our external investment managers who manage quantitative multi-factor strategies on our behalf, to meet our carbon-reduction targets, but give them flexibility in how they do this.”

The new report is based on recommendations from the Taskforce on Climate-related Financial Disclosures (TCFD). Last month, the New Zealand government announced the country would become first in the world to require the financial sector, publicly listed companies and Crown financial institutions (including NZ Super) to report on climate risks, based on the TCFD framework.

“The materiality of climate risk is accepted and therefore it is absolutely reasonable to seek better disclosure,” said Whineray.

But he added there is not enough information in the public domain about how entities in New Zealand are managing and reporting on material business risks related to climate change, “to enable investors to make informed decisions on this systemic issue”.

NZ Super’s board of guardians considers that climate change is “a market and policy failure. Companies are producing too many emissions and markets are over-invested in fossil fuels”.

And given the many different factors that weigh on climate risk, NZ Super is of the view that carbon is not efficiently priced. But while the risks will take time to be revealed, financial markets are forward looking, said Whineray.

“Prices may adjust quickly when a greater appreciation of the threat of climate change emerges. Therefore, it is prudent to reduce our exposure to these uncompensated risks and increase our exposure to unpriced opportunities immediately rather than trying to estimate when markets will adjust.”

NZ Super Fund has announced it is being included in the UN Principles for Responsible Investment (UNPRI) Leaders Group 2020. This acknowledgement showcases the leadership of 36 top entities amongst UNPRI 3,500 signatories, with this year’s recognition coming for climate reporting.

The only other Asia Pacific asset owners included in the group are the Australian super funds, Aware Super and Cbus.