Transitioning to a net-zero portfolio 

Essentially, we cannot manage what we can’t measure. The availability of reliable emissions data is still an issue in emerging markets like China and in some asset classes such as unlisted real assets. Without proper disclosure, it is challenging for asset managers to understand which parts of their portfolio are driving carbon emissions, and what they should prioritize for decarbonization.

To this end, Mercer’s Analytics for Climate Transition (ACT) tool was developed to help clients assess transition risks. The ACT framework collates portfolio emissions profiles, and applies proxies to private assets where actual data is not available, and allows asset managers to keep track of net-zero targets from a total portfolio perspective.

Although government net-zero pledges and targets currently account for 80% of global emissions, temperatures are still projected to rise by 2.4°C by the end of the century, some distance away from the 1.5°C target under the Paris Agreement. The resistance to move from pledging to doing, as well as the lack of relevant policies needed to drive market action, will derail the speed of decarbonization, and may affect asset managers with material exposure to sovereign investments.

How this situation unfolds in the future depends on the progress of nationally-determined commitments from countries following the COP26 summit, but doubts still remain. Two of the world’s largest economies like China and Russia are still working towards 2060 as a more realistic target instead of the 2050 pathway projected by the Intergovernmental Panel on Climate Change (IPCC).

With a target 30 years into the future, it is impossible to tell what the exact means and solutions will take asset managers to net-zero. Investors should instead focus on short- to mid-term milestones - and plans to achieve that - to stay on track towards the longer term goal.

As asset managers set out to achieve net-zero targets, they must continue to ensure that decarbonizing portfolios are implemented with the right principles in mind. Transition should not be done at the expense of vulnerable communities or less-skilled labor. There could also be times where offsets might be an attractive or cost-effective short-term solution, but companies need to make sure that they’ve reduced all “technologically and economically feasible” emissions before balancing any residual emissions with carbon credits.