In January 2021, Lyxor Asset Management published the temperatures implied by more than 150 of its ETFs, a significant step in giving investors critical information to assess the impact of their portfolios on global warming. Florent Deixonne, Head of SRI at Lyxor Asset Management, explains how investors can use this information in the fight against global warming.
Why did Lyxor decide to publish the temperatures of 150 of its ETFs?
The world is at a critical juncture. We must all take collective action to address the climate challenges we face if we are to limit global warming to less than 2 degrees, or more optimistically 1.5 degrees, in line with the ambitions of the Paris Agreement.
The asset management industry has a key role to play. Every financial asset, stock market index and investment portfolio, through the business activities of companies it invests in, has an impact on global warming. This puts asset managers like Lyxor in a strong position, because we can steer investors, who are increasingly climate-aware, to reallocate funds in a way that actively supports the transition to a low carbon economy.
The implied temperature of assets is a likely to become a key metric in portfolio allocation decision-making. This means that for asset managers, assessing the impact of investments on global warming will become an integral part of their fiduciary duties. And for investors, it’s also a straightforward and easy to understand indicator, helping them navigate towards a more climate-friendly trajectory in portfolio construction with relative ease.
How does Lyxor assess the temperature of ETF funds?
The methodologies for accurately stating the degree of warming potential of an investment portfolio are cutting edge and are constantly evolving. We work with climate data specialist S&P Global Trucost, specialized in assessing risks related to climate change and a subsidiary of global index supplier Standard & Poor’s, to ensure that we refine our approach on an ongoing basis.
The methodology is based on climate scenarios developed by international authorities such as the International Energy Agency (IEA) or the Intergovernmental Panel on Climate Change (IPCC). This is combined with two models recognized and used by companies to determine the decarbonisation trajectory of their businesses. First, the Sectoral Decarbonisation Approach (SDA), developed by the Science Based Targets Initiative for sectors with high levels of greenhouse gas emissions, such as power generation, steel production, or aviation, etc...The second is the Greenhouse gas Emissions per unit of Value Added (GEVA) approach for other sectors.
By combining these two approaches, we can accurately assess companies’ alignment with the Paris Agreement, across all sectors.
How do temperature metrics contribute to the evolution of climate investing?
ETFs and consequently the indices they replicate, have varying temperature measures, which means varying impacts on global warming, depending on the decarbonisation trajectories of all the companies which are part of the index.
The energy transition calls for long-term changes. Companies whose temperature is high today may therefore see their temperatures drop over the coming years.
Going forward, disclosing temperature measures will raise companies’ and investors’ awareness on the need to step up their efforts to limit global warming.
It’s also important to remember that the disclosure of fund temperatures isn’t the only tool at the disposal of asset managers to help investors support a low carbon economy. Investors can invest in innovative products that are already aligned with the Paris Agreement, such as climate ETFs. Asset managers can also consult with companies and use their voting power at General Meetings to encourage them to accelerate their decarbonisation programmes.
One thing is certain: temperature metrics will become increasingly important in portfolio allocations.