Climate risk to asset classes

Environmental Finance: Long-term investors should consider shifting out of equities and into bonds, unless they believe ambitious efforts to tackle climate change are likely, a working paper by French pension fund Fonds de Reserve pour les Retraites (FRR) suggests. FRR, which manages €28.8 billion ($42.6 billion), looked at how investments in different asset classes might perform over the long-term depending on a range of climate and economic scenarios.

These includes a ‘green scenario’, in which global carbon dioxide (CO2) emissions are cut 50-85% by 2050, with ambitious investment in green technologies and the global roll-out of emissions trading, so that 80% of greenhouse gas emissions are covered by 2040 at a price of around €100/tonne of CO2 equivalent. FRR’s calculations suggest that equities would be a less risky investment in this scenario, while commodities and bonds would underperform.

By contrast, the business-as-usual scenario, the “extended fossil scenario” – which would see fossil fuel resources exhausted more quickly – and the “more rapid climate change scenario” would favour an increase in allocation of assets to bonds and away from equities. In the extended fossil scenario, investors could also benefit from increasing allocations to commodities, the paper suggests.

“The integration of environmental issues at the strategic asset allocation level leads to lowering the weight of ‘risky’ assets. Only one of the five constructed scenarios, the green growth scenario, reverses this finding,” FRR said….

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