Scenario modelling of climate change confirms climate risks will have a material impact on the way OPTrust invests. We speak with Alison Loat about the implications for the fund’s climate strategy
Canadian pension fund OPTrust has identified the impact of and importance of managing climate risk within its investment portfolio, after the fund undertook a study that modelled the impact of various climate change scenarios on its portfolio.
As a result of the study and the broader global transition, OPTrust has developed an action plan to achieve net zero by 2050 and will launch a series of climate due diligence frameworks for use by its investment teams across all asset classes.
The study, which was conducted by OPTrust’s portfolio construction team together with Ortec Finance, will help the fund develop an appropriate response to the challenges climate change brings, but Alison Loat, Managing Director, Sustainable Investing and Innovation at OPTrust, also warns that any response needs to take account of the inherent unpredictability of climate change and the energy transition.
Therefore, investors need to make a clear distinction between short term and long term effects on their portfolios.
“The biggest issue organisations grapple with is the time horizon distinction. There is a big difference between what the market is returning this quarter and problems for pension investors that are five, 10 and more years out,” Loat says in an interview with [i3] Insights.
“We are talking about global decarbonisation by 2050.
Many of the interim targets people are setting are 2030 targets, but even when speaking about 2030, portfolios are going to look very different than now... And for that specific reason we haven’t set any interim targets yet.
“Many of the interim targets people are setting are 2030 targets, but even when speaking about 2030, portfolios are going to look very different than now. And this is where it can rub up against internal incentives that are more near term.
“And for that specific reason we haven’t set any interim targets yet. It does take some time to sort out what we think we can realistically deliver. This is a very complicated story and any energy analyst will tell you that we are going to see a lot of volatility in this,” she says.
For example, the study found that equities will be most affected under the various scenarios, but this doesn’t mean funds can manage climate risks by reducing their exposure to equities.
“I don’t think any pension plan is exiting equities anytime soon, so I don’t think that is going to be the solution. But it underscores the importance of assessing the climate risks around a new investment,” Loat says.
“What are we doing as stewards of that capital to make sure we are comfortable with the approach fund managers are taking in their climate considerations?” she says.
ESG in Trouble
While the CAN$ 25 billion fund has confirmed climate change as having a material impact on its investment portfolio, there has been some pushback against climate policies in other parts of the world.
Texas, the largest producer of oil and gas in the United States, passed a bill in 2021 that prohibits state institutions from investing with financial organisations that are perceived to ‘boycott’ energy companies.
Glenn Hegar, theTexas comptroller, saw this bill as an opportunity to create a blocked list of funds and investment firms, and in August this year he ordered state organisations, including the US$160 billion Teacher Retirement System of Texas, to divest of no less than 348 specific funds and 10 asset management companies, including BlackRock and UBS Asset Management.
The move sent shockwaves through the industry and has made many asset managers nervous about their current ESG efforts. Its effects will reach well beyond the US borders and Loat is keeping a close eye on the developments in Canada’s neighbouring country.
What has been happening in the US is that ESG has been politicised... It is important to understand that these are political decisions, and they have not been taken with the long-term investor in mind
“What has been happening in the US is that ESG has been politicised and you have a number of Republican legislators that are imposing restrictions on their state pension plans’ ability to integrate ESG in their investment decisions,” she says.
“It is important to understand that these are political decisions, and they have not been taken with the long-term investor in mind.
“[Climate risks] are unquestionably material risks for a number of different businesses and I do hope that people genuinely care about the long-term wellbeing of their pensioners and are going to allow their asset managers to consider those risks in a really meaningful way, particularly as they become more material.
“So it is absolutely a setback for those jurisdictions and I do hope it is just a temporary blip. We are watching it really closely. I think we have to be realistic, these are trends that can impact us in Canada,” she says.
But Loat does recognize there are differences in the Canadian model. She points to the fact that Canadian pension plans typically have more independent governance frameworks than do the US funds.
Yet, the developments in the US make clear that ESG is a somewhat clunky umbrella term for a whole range of issues that are complex and not always relate to each other.
“It is a little bit the flipside of the challenge that ESG has faced in defining itself,” Loat says. “People use the term ESG like it is one thing, but ultimately it is a framework of risk across a bunch of financial and non-financial factors.
“That doesn’t translate into a nice headline about what ESG is. Climate risk is very different from cyber risk, for example. The complexity inherent in that term allows it to be easily misunderstood,” she says.
[i3] Insights is the official educational bulletin of the Investment Innovation Institute [i3]. It covers major trends and innovations in institutional investing, providing independent and thought-provoking content about pension funds, insurance companies and sovereign wealth funds across the globe.