An equity portfolio where climate considerations represent less than 50% of the determinants of the equity weight should not be allowed to claim that it is climate-friendly or aligned with net zero ambitions, according to the authors of an EDHEC- Scientific Beta study.
In the study “Do good or feel good?” Detecting Greenwashing in Climate Investing ”, Noël Amenc, Felix Goltz and Victor Liu explained how they tested stylized climate investing strategies in developed stock markets only to find that popular climate strategies are incompatible with the goal of influencing companies to reduce their emissions.
Yesterday during a webinar, Goltz, associate researcher at EDHEC Business School and research director at index provider Scientific Beta, said that climate investing is different from standard investing because it also pursues non-financial goals. Investor initiatives such as the Paris-aligned Investment Initiative have made it clear that they are helping to limit global warming as a goal, he said.
In their analysis, Goltz, Amenc and Liu discovered three key gaps that introduce greenwashing risks into climate strategies.
The first is that stock weights in stylized strategies were primarily determined by market capitalization, with climate scores only accounting for 12% of the weight differences between stocks.
The trio also said that climate investment strategies were “relatively insensitive in their allocation decisions to the dynamics of corporate climate performance,” with an average of around 35% of stocks whose climate score deteriorates over time. time being rewarded with an increase in weight.
According to the authors, weighting decisions at the company level should send clear signals to company management to motivate them to improve their climate performance.
“Such clear signals are also important for engagement strategies to be effective,” they wrote.
The language in a separate EDHEC statement on the study was stronger, describing the inconsistency between companies’ climate performance and weights in investor portfolios as “remov[ing] all the credibility of the engagement actions that investors carry out with these same companies ”.
Another finding highlighted in the study document is that climate strategies “underweight key sectors such as electricity drastically, by up to 91%”.
“If this results in good portfolio green scores, it will be less easy to green the economy by cutting electricity,” the authors write.
Do not mix
According to the study, all climate-aligned indices and popular funds are exposed to the risk of portfolio greenwashing they identified, “and unfortunately the recent EU regulation on Paris-Aligned benchmarks (PAB ) does not protect against this risk ”.
Speaking in a webinar, Goltz, an associate researcher at EDHEC Business School and research director at Scientific Beta, said a constraint imposed by the PAB regulation was too broad to prevent underweighting or even letting go. complete exclusion of sectors crucial to reducing fossil fuels. consumption.
In their article, Goltz and his co-authors recommended that institutional investors and their consultants pay attention to the risks they identified when conducting due diligence, but also said, “We think it is time. to collectively examine the necessary paradigm shift in climate investment ”. .
“It is not possible to achieve a climate revolution by continuing to stick to traditional benchmarks,” they wrote.
“Only by freeing climate investments from the constraints and targets of minimizing tracking errors can we hope to have consistent benchmarks with climate alignment targets.”
“Mixing financial goals and climate goals is not the right thing to do”
Noël Amenc, associate professor of finance at EDHEC and founding CEO of Scientific Beta
Regulators should establish clear rules to fight against greenwashing of portfolios, they continued, and “avoid promoting green labels based on regulations that in no way protect investors from the risks of greenwashing, as is the case with the EU PAB regulation ”.
A concrete suggestion from them was that a threshold to qualify as “true green strategies” is that at least 50% of the weight of the constituents be determined by climatic metrics. When this criterion is not met, “the strategy must not be marketed as a real climate strategy,” they wrote.
Speaking during the webinar, Amenc, associate professor of finance at EDHEC and founding CEO of Scientific Beta, said he wanted to stress that the aim of the study was not to shed light on a fund or index in particular, but to “question the methodology”.
“Our idea is also not to say that investors or asset managers are ready to do the wrong things,” he added. “We strongly believe that investors are really honest with the climate issue. We strongly believe that asset managers want to make an impact, but they are not using the right methodology.
“Mixing financial goals and climate goals is not the right thing to do. “
The study in question was carried out within the framework of the EDHEC-Scientific Beta research chair for the “Advanced ESG and Climate Investing” research chair, co-funded by Scientific Beta.