How the Industry’s Fastest Growing Sector Is Pushing Managers to Change Their Behavior

A small, but growing number of asset managers that run environmentally-sustainable funds are no longer simply lobbying for incremental changes like better disclosure. Instead, they’re becoming much more active, engaging and pressuring firms to reduce their dependence on fossil fuels and restructure to avert the worst of climate change. 

Last week, Wellington Management, with over $1 trillion in assets under management, said it was collaborating with the Joint Program on the Science and Policy of Global Change at the Massachusetts Institute of Technology, a group of natural and social scientists that will provide the manager with climate change research and environmental, economic, and policy projections. The information will include the financial impact of decarbonizing industries. 

“The focus is on transition risk…which can be defined as transitioning to a lower-carbon economy or decarbonizing,” Chris Goolgasian, director of climate research at Wellington, told Institutional Investor. “With MIT, we’re going to go deep at the sector-level on these transition pathways.” Goolgasian said Wellington has been closely engaged with company management teams to meet net-zero goals and the MIT research will help inform those discussions.

The alliance is part of Wellington’s wider ESG and net-zero initiatives. In 2018, the asset manager formed a partnership with Woodwell (née Woods Hole) Climate Research Center, a think tank, to generate more data on climate change and its impact on the capital markets. Goolgasian said the Woodwell partnership focused on the physical risks of climate change — heat, drought, wildfires, hurricanes, floods, water scarcity, and rising sea levels. 

“The point was to go out and find the expertise in the scientific community so that we can learn from them because we are finance people, not scientists,” Goolgasian said. “With the MIT announcement, it’s a similar goal, which is to work with experts in a very quickly moving area of both policy and technology.” 

Although the jury is still out on the performance of environmental and sustainable funds as well as their tangible impact on climate change efforts, the asset management industry is diving head first into the net zero space. In December 2020, a group of 30 asset managers signed the Net Zero Asset Managers initiative, whose goal is net zero greenhouse gas emissions by 2050. Today, the pledge has 220 signatories, representing over $57 trillion in assets under management. 

Goldman Sachs Asset Management identified the “sustainability revolution” as one of eight key themes and funds that consider environmental, social, and governance factors as the fastest growing area of the industry. Thirty-two percent of institutional investors told Commonfund that they expect to increase their allocations to green assets in 2022.

Marina Severinovsky, Schroders’ recently-appointed head of sustainability, said the asset management industry is entering its next phase in its pledge to mitigate climate risk. For Severinovsky, this means a transition from a focus on divestment and asset allocation to an emphasis on active ownership, including talking to companies about how they’re adapting, collaborating with other investors, and voting their proxies to express their views.  

“This is the next phase,” Severinovsky told II. “Everybody already assesses sustainability considerations when they work with and review companies. The next stage is… that engagement, putting pressure to bear.”

In recent months, Severinovsky said Schroders ramped up the size of its active ownership team, and the firm’s investment team implemented a requirement for investors to engage at least three times a year, “in a really substantive way” with portfolio companies. 

“It’s become clear that, at this scale, divestment just won’t cut it,” Severinovsky said. For example, rather than divesting from coal companies, firms would rather vote on boards to decrease the companies’ carbon footprint. When investors divest, there’s evidence that these companies continue to operate, but without the scrutiny that comes with engaged investors. “The trend does seem to have become structural.” 

Alyssa Stankiewicz, a lead sustainability analyst at Morningstar, said investors are beginning to realize that there are a number of tools at their disposal to drive sustainability initiatives, including active ownership. In 2021, active ownership made headlines when activist investor and hedge fund Engine No. 1 bought a stake in Exxon Mobil and won a proxy battle to install three directors on the energy giant’s board with the goal of decreasing its carbon footprint. 

“That was a major win,” Stankiewicz said. 

Stankiewicz said much of the growth in and expansion of decarbonization initiatives in asset management in recent years has been driven by the increasing availability of high-quality data, investor coalitions and summits, such as COP26, and an increasingly favorable regulatory environment in the U.S. that encourages shareholders to engage with portfolio companies. 

Asset managers were generally late to climate change, with their views of systemic climate-related financial risk differing markedly from the predictions of climate science until recently. According to Morningstar, climate risk shifted into the mainstream investment consciousness in the two-year period leading up to COP21 in 2015. Two years earlier,  the Carbon Tracker Initiative reported that fossil fuel reserves would have to remain untouched to prevent further climate change. Mark Carney, the former governor of the Bank of England, called out the entire industry, saying climate change is the result of financial short-termism,” the report said.

Agriculture and timber — natural assets — may be the ultimate active ownership play. After all, owning these assets cut out the middleman, with investors having direct control.

“[Nature] generates value,” Laz Tiant, investment director of sustainability and impact investing at Schroders, told II. “As we lose forests to wildfires, for example, there is value that’s being lost…When I think about natural capital, I think about that value that’s tied to nature and how we use nature.” 

While many of these industries organized around farmland or forests pose an existential risk to the natural resources they rely on, Tiant said, “You don’t want to divest, but you want to work with them to seek long-term returns,” he said.

The ultimate goal for asset managers is for the wider market to recognize the prices of climate risk, said Peter Coffin, founder and president at Breckinridge Capital Advisors, a fixed income investment manager with over $46 billion in assets. 

“That’s the holy grail,” Coffin said. “The ultimate impact is when the market recognizes and prices these risks, management will as well.”