It's Time for Asset Managers to Step Up on Climate Change

Earlier this month in Boston, I interviewed one of the world's greatest investors, GMO co-founder Jeremy Grantham, in a livestream for the Morningstar Institutional Conference in Amsterdam. Grantham didn't want to talk about the things that made him a famous investor, like asset bubbles and reversion to the mean. He wanted to talk about climate change.

We're in the race of our lives, Grantham, 78, told me, if we're going to deal adequately with the consequences of man-made global warming: rising sea levels, drought, flooding, and other extreme weather events, resulting in food and water shortages, all set against the backdrop of world population growth and increased income inequality, resulting in huge financial costs and the destabilization of political and economic systems.

Our possible saving grace, he suggested, could come from a slowdown in population growth along with worldwide commitment to transitioning to a low-carbon economy. It will take massive investments in alternative energy sources, energy efficiency, and transportation.

Asset managers have a huge role to play in making this happen. Not just as corporate citizens themselves but as long-term stewards of trillions of dollars of investor capital, they have a huge stake in maintaining long-term political and economic system stability, especially in a globalized economy in which large public companies do business all over the world while the reach of sovereign governments is limited. If the global financial system itself isn't sustainable over the long run, neither will be their investments.

How do they do this? By explicitly considering climate change risks and opportunities in their investment processes. I'm not talking only about the relatively small number of investment strategies focused on delivering some type of sustainable-impact outcome for investors--I'm talking about asset managers incorporating climate change into their firmwide approach to investing.

That includes, importantly, company engagement. Asset managers are owners of the companies they hold in their portfolios. As shareholders, and on behalf of their own fund investors and private clients, asset managers have a seat at the table to directly engage with companies on climate issues. They are in a unique position to share information that can help a company better understand climate issues within a particular industry or to pressure a company to adopt best practices in disclosing the climate-related risks to its business. Engagement, in turn, gives asset managers insight into how seriously a company is taking climate risk, whether it has the management and board capacity to deal effectively with climate issues, and how climate-related risks and perhaps climate-related opportunities affect its business strategy.

Of the world's four largest asset managers, all based in the United States, two have stepped up their game on climate change. BlackRock, the world's largest asset manager with $5.1 trillion under management, and State Street Global Advisors, with $2.5 trillion, both announced recently that climate change would be at the top of their corporate engagement priorities this year.

BlackRock did so at least partly in response to pressure it received from its own shareholders, including Walden Asset Management, an ESG-focused investment boutique, who filed a shareholder resolution requesting a review of BlackRock's approach to engaging on climate change. According to a Ceres study, BlackRock voted against every shareholder resolution related to climate in 2016. In March 2017, the firm announced that climate risk will be a priority in its company engagement this year.

SSGA didn't need to be pressured. It voted for nearly half of climate-related resolutions in 2016, and in a letter to corporate board members, SSGA President Ron O'Hanley noted that the firm in 2017 "will be increasingly focused on board oversight of environmental and social sustainability in areas such as climate change…" The aim of SSGA's focus on climate change risk, he wrote, is to help firms "capture and elevate different kinds of physical, regulatory, and economy risks associated with climate change." SSGA has provided guidance on how it evaluates a company's climate change risk assessment and preparedness to address that risk.

BlackRock's priorities are similar, emphasizing first the "climate competence" of corporate boards. According to BlackRock's engagement priorities statement:

"For directors of companies in sectors that are significantly exposed to climate risk, BlackRock expects the whole board to have demonstrable fluency in how climate risk affects the business and management's approach to adapting and mitigating the risk of how climate change impacts business models and operations."

The second priority for BlackRock is climate risk disclosure:

"We believe that enhanced, meaningful disclosures are an important step towards building understanding of the impact on individual companies, sectors and investment strategies. Given climate risk is a universal issue, we believe disclosure standards should be developed that are applicable to listed companies across each market and, ideally, that are globally consistent."

BlackRock proposes to work with companies on using a framework developed by the Financial Stability Board Task Force on Climate-related Financial Disclosures, or TCFD, designed to give "companies and investors a starting point to assess, report, and price climate-related risks and opportunities."

This level of commitment sends the message to companies that investors are concerned about climate change while helping both sides better understand the issue, which is unlike any that they have faced in the past.

It would be nice to report that the other asset managers among the top four are making similar commitments. But neither Vanguard ($4 trillion assets under management) nor Fidelity ($2.1 trillion) voted for a single climate-related resolution in 2016, according to the Ceres study, and neither has made climate change a priority in its engagement plans for 2017.

I agree with Jeremy Grantham. We're in the race of our lives with climate change. It's made all the worse having a president who calls climate change a hoax and who, with his recent executive orders, is actively undermining the ability of the U.S. to reach its carbon-reduction targets based on the Paris agreement, while also forbidding federal agencies, including the U.S. military, from doing the very thing many asset managers are asking companies to do: prudently assess the risks posed to their mission by climate change. As responsible stewards of investor capital, it's time for our leading asset managers to speak up loud and clear, not only behind closed doors in corporate boardrooms, but in the public sphere as well.

Jon Hale has been researching the fund industry since 1995. He is Morningstar’s director of ESG research for the Americas and a member of Morningstar's investment research department. While Morningstar typically agrees with the views Jon expresses on ESG matters, they represent his own views.