Download esg: the paris accord on climate change

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Thought Leadership™
ESG: THE PARIS ACCORD
ON CLIMATE CHANGE
• Adopted
Mary Jane McQuillen
Managing Director,
Portfolio Manager
by consensus by all 195 participating member states,
the accord promised to reduce members’ carbon output “as
soon as possible” and to do their best to keep global warming
“to well below 2 degrees C” (2°C) or 3.6°F.
• In
addition to an ambitious target, the accord featured a longterm goal for emissions; a ratchet mechanism to steadily
increase the goals; progress on climate finance for poorer
countries; and incentives to reduce emissions.
• The
accord also has investment implications across
many industries, including power generation, energy
and industrials.
2 Q 2016
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PORTFOLIO MANAGER COMMENTARY
Fourth Quarter 2015
ESG Investment Program
ClearBridge ESG Investment Program
On the Environmental, Social and Governance (ESG) Investment
front, this quarter we examine the recent Paris Accord adopted in
December at the 2015 United Nations Framework Convention on
Climate Change (UNFCCC) conference in Paris, France. This was the
Mary Jane McQuillen
21st annual Conference of Parties (COP21) and the objective of the
conference was to achieve, for the first time in over 20 years of UN
Managing Director, Portfolio Manager
negotiations, a binding and universal agreement on climate change
and carbon pollution, from all the nations of the world. Conference
head Laurent Fabius, France’s Foreign
One of the most Minister, said this “ambitious and balanced”
in the goal
notable aspects of the plan was a “historic turning point”
of reducing global warming.1
Paris Accord is that it
marks the first time the
U.S. has agreed to this
kind of target.
At the conclusion of COP21, the Paris Accord
was adopted by consensus by all of the 195
UNFCCC participating member states. In
the 12-page Accord the members promised
to reduce their carbon output “as soon as
possible” and to do their best to keep global warming “to well
below 2 degrees C” (2°C) or 3.6°F. A non-legally binding addendum
to the Paris Accord included a plan to provide $100 billion a year in
aid to developing countries for implementing new procedures to
minimize climate change with additional amounts to be provided
in subsequent years.
Although the UN negotiation process inevitably involves
compromises from all sides, the resulting agreement has a number
of key attributes that lay a foundation for a global response to
climate change:2
•• An ambitious target – governments agreed that the aim is to
keep a global temperature rise this century well below 2°C and
to drive efforts to limit the temperature increase even further to
1.5°C above pre-industrial levels.
•• A long-term goal for emissions – the agreement aims for net
zero emissions in the second half of the century.
•• A ratchet mechanism – national plans will be updated every
five years, thereby steadily increasing their ambition over time.
•• Progress on climate finance – the agreement strongly urges
developed countries to mobilize $100 billion per year in finance
support to help poorer nations reduce emissions and adapt to
changes in the climate.
•• Incentives to reduce emissions – the agreement recognizes
the important role of providing incentives for emission
reduction activities, including tools such as domestic policies
and carbon pricing.3
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PORTFOLIO MANAGER COMMENTARY
From our perspective, one of the most notable aspects
of the Paris Accord is that it marks the first time the
U.S. has agreed to this kind of target. It was generally
acknowledged that without
By seeking to invest the participation of both the
in the best-in-class U.S. and China, by far the two
largest national emitters of
companies in these carbon, the efforts of all other
industries…we can participants would be well
actively support those intentioned but for naught.
market players working
to reduce carbon
emissions and mitigate
anthropogenic
climate change.
President Obama insisted on
America’s essential role in that
regard: “…With our historic
joint announcement with
China last year, we showed it
was possible to bridge the old
divide between developed and
developing nations that had stymied global progress for
so long…That was the foundation for success in Paris.”4
Aerial view of Kotzebue, Alaska, USA - an Inuit village
facing the imminent prospect of displacement due to rising
sea levels, melting permafrost, and erosion.
Photo: U.S. Army Corps of Engineers.
challenges and risks to human rights resulting from
anthropogenic climate change.
What also helped in the U.S. participation was that
important steps had already been taken to establish
national policies to reduce emissions, such as the
Clean Power Plant rule from the EPA and the mileage
standards for vehicles (both light and heavy). Large
U.S. multinationals have increasingly recognized the
importance of directly addressing the climate change
issues and the need to support solutions. Thus, it is
likely that opposition to implementing policy solutions
to the carbon emissions problem in Congress is likely
to weaken as more leading corporations begin
supporting action.
Referring to the Paris Accord as “…a stepping stone
rather than the end objective for climate change action,”
the report highlights the need for greater ambition
with regard to mitigation, human rights safeguards
for international climate finance mechanisms, financial
assistance for developing countries faced with
adaptation, and the development of an international
mechanism on climate-induced displacement and
migration. In addition, the report proposes a number
of new human rights-related mechanisms for
international coordination and accountability in
delivering these outcomes.
Less noticed perhaps, but materially important has been
the growing emphasis in the U.S. on energy efficiency
(in HVAC, lighting, appliances, electric motors, etc.),
which helps explain why power demand in the U.S. has
been flat despite economic and population growth.5
The report goes on to describe how the
Intergovernmental Panel on Climate Change (IPCC)’s
Fifth Assessment Report (AR5)6 provides a detailed
picture of how the observed and predicted climactic
changes will adversely affect millions of people and
the ecosystems, natural resources, and physical
infrastructure upon which they depend.
In addition, we anticipate that the millennial generation’s
broad-based acceptance of the scientific observations
of anthropogenic climate change, which refers to the
impact of the production of greenhouse gases emitted
by human activity, coupled with the ethical obligations
to those most affected by it yet underserved across
geographies, should provide tailwinds to keep the Paris
Accord moving in the right direction. The Paris Accord’s
carbon emission target is not legally binding and so may
be considered more aspirational than enforceable, but it
is still an important milestone.
On Climate Change and Human Rights
Also in December the United Nations Environment
Program (UNEP) and Columbia Law School’s Sabin
Center for Climate Change issued a new report on
“Climate Change and Human Rights” that describes the
As stressed in the report is that “near-term harmful
impacts include sudden-onset events that pose a direct
threat to human lives and safety, as well as more gradual
forms of environmental degradation that will present
risks to access to clean water, food, and other resources
that support human life.” Preceding the IPCC’s latest
report, a number of communities took matters into their
own hands by petitioning governments to assess and
mitigate the effects of climate change in anticipation of
increasing climate-related threats to their human rights.
For example, in 2007, the Republic of Maldives, an island
state in the Indian Ocean, convened a meeting of small
island states to request that the Office of the UN High
Commissioner for Human Rights (OHCHR) conduct
a detailed study on the relationship between climate
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CLEARBRIDGE ESG INVESTMENT PROGRAM
change and human rights. Thus, in 2009, the UN OHCHR
became the first international human rights body to
examine such a relationship.7
In December 2005, the Inuit Circumpolar Council
Canada petitioned the Intra-American Commission on
Human Rights based in Washington, DC to seek relief
for the Inuit from global warming caused by greenhouse
gas emissions from the U.S. The 163-page petition
documents existing, ongoing and projected destruction
of the Artic environment and culture of Inuit caused by
global warming.
The new report provides an indispensable basis for
climate policy going forward, helping us see in detail
how climate change threatens our ability to enjoy our
human rights, and also how the exercise of human rights
can inform and guide our climate policies. As the report
states, “a human rights perspective on climate change
not only provides a stark warning of what is at stake - it
also gives us a beacon of hope that we can solve this
problem together.”
Investment Implications
The near- and long-term impacts of COP21 and the Paris
Accord are not limited to the environmental and political
spheres, and will have significant ramifications for the
global economy and investment landscape as well.
The Paris Accord shows that it is possible for the world’s
nations to come together to tackle a global issue like
climate change. However, it is important to point out
that the commitments put forth by each country, known
as Intended Nationally Determined Contributions
(INDCs), are non-binding and generally apply after 2020.
In addition, these national commitments will need to be
increased considerably to achieve the goal of keeping
global temperature increase to 2°C, let alone well below
that number. So despite the morale boost from the Paris
Agreement, ultimately it will still be national policies that
will determine the specific emissions reductions and
low-carbon incentives by country, sector and facility. The
short-term impacts on companies from the agreement
itself are not the key issue here, but the agreement will
have future implications as regulations are enacted and
ratcheted up over time.
For example, in the U.S., as noted by one of our internal
analysts, the Environmental Protection Agency’s
emission and carbon regulations are expected to
have a material impact on valuing the power sector.
These regulations will increase the operational costs
of the power plants with higher emission levels (e.g.,
older, less efficient coal plants) and require additional
environmental spending. Incremental expenditures
on environmental retrofits should make smaller, older
4
coal plants uncompetitive and lead to their retirement.
Implementation of mercury regulations alone could
lead to retirement of an estimated 17% of the country’s
coal-fired capacity by 2017. The increasing penetration
of distributed solar power generation and utility-scale
energy storage will also have a disruptive effect on
utilities over the longer term.
It is also worth considering that the achievement
of a global agreement will likely reinvigorate broad
efforts to combat climate change on many fronts
and act as a catalyst for private sector expenditure
in areas like renewable energy, energy efficiency and
smart technologies broadly. In that sense the climate
agreement reached in Paris is a positive for sentiment
on companies involved in low-carbon technologies
and a negative for high-carbon emitters like coal-fired
power technology.8
The need to reduce carbon emissions globally has
implications across many industries. On a long-term
basis carbon regulations and evolving market conditions
are likely to affect operating cost structure and capital
allocation in sectors like energy and industrials. In the
technology sector, significant growth markets exist
for technologies like sensors that enable electric and
hybrid vehicles, and LED lighting that is 85-90% more
efficient than conventional lighting. And in the materials
sector, products with attributes like energy efficiency,
light weighting and fuel efficiency are increasingly
in demand, while industrials sector companies are
increasingly developing cleaner and greener industrial
products and processes to meet a similar increase
in demand.
Our Approach
When it comes to the industries that account for the
bulk of carbon emissions, namely within the energy and
mining sector, ClearBridge’s ESG Investment approach
is to not invest in companies that are laggards and/or to
underweight these sectors as appropriate. Accordingly,
the focus would be on managements who have the
willingness and ability to advocate for stricter standards,
and companies within these industries who are
providing solutions and renewable opportunities. Our
reasoning behind this choice is twofold. By seeking to
invest in the best-in-class companies in these industries
– those which are relatively cleaner, more efficient and
innovative than their competitors when it comes to
carbon and other greenhouse gases – we can actively
support those market players working to reduce carbon
emissions and mitigate anthropogenic climate change.
In our experience (which is in agreement with a
substantial body of academic research), these
companies also typically represent the better long-term
PORTFOLIO MANAGER COMMENTARY
investment choice in their given industries, due to a host
of factors including longer-term-oriented leadership
and management teams, better corporate governance
structures, reduced liability risks and superior
technology, just to name a few.
Furthermore, our integrated approach to active
corporate engagement on climate change issues,
whereby we advocate in meetings with corporate
management teams to advance ESG issues such as
carbon emissions disclosure, setting benchmarks on
emissions reductions, influencing corporate strategy to
be longer term, and improving supply chains – enables
us to utilize the influence we bear as institutional
investors and fiduciaries as a positive force to help
improve companies’ outcomes with regard to
carbon emissions.
Doyle, Allister; Lewis, Barbara (December 12, 2015). “World seals landmark climate accord, marking turn from fossil fuels”. Reuters. Thomson Reuters.
Pfeifer, Stephanie (December 16, 2015). “Did COP21 Meet Investor Expectations?” Institutional Investor Group on Climate Change, MSCI ESG RESEARCH INC, (MSCI Webinar
COP21 Dissected).
3
United Nations Framework Convention on Climate Change (December 2015). “Paris Agreement”.
4
President Obama (December 12, 2015). “President Obama’s Statement on Climate Change”. White House Briefing Room.
5
Vandenberg, Tim. Washington Analysis. Direct communications. December 2015.
6
IPCC, Climate Change 2014: Impacts, Adaptation, and Vulnerability, Contribution of the Working Group to the Fifth Assessment Report of the Intergovernmental Panel on Climate Change
(Cambridge University Press 2014).
7
Knox, John H. “Linking Human Rights and Climate Change at the United Nations.” Harvard Environmental Law Review. July 2, 2009.
8
UBS Global Research, US Electric Utilities & IPPs, COP21: Distilling the Essence of the Framework (Call Transcript), December 21, 2015.
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CLEARBRIDGE ESG INVESTMENT PROGRAM
About the Author
Mary Jane McQuillen
Managing Director, Portfolio Manager, Head of ESG Investment
• 19 years of investment industry experience
• Joined predecessor firm in 1996
• Professional organization memberships:
Sustainable Investment Security Analysts Committee, New York Society of Security Analysts (NYSSA);
UN PRI Public Equities ESG Integration Working Group; Investor Responsibility Research Center Institute
(IRRC), Board of Directors; Sustainable Investment Research Analyst Network (SIRAN) - Steering
Committee; United Nations Environment Program Finance Initiative (UNEP FI) Asset Management
Working Group (AMWG)
• MBA in Finance, Columbia Business School
• BS in Finance from Fordham University
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