California turns up the heat on

climate change disclosures

New law requires big pension funds to provide more
information on environmental risk
September 29, 2018

Parts of California were still smouldering as the law was passed © Peter ToshinskyZuma/Alamy

The wildfires that ripped through the heart of California this summer were
mostly under control by the time Senate bill 964 was approved by lawmakers in
late August.

Scientists say climate change is leading to the increase in such catastrophes.

It is grimly ironic, then, that landmark legislation, to compel two huge US

pension funds to disclose more about how they manage climate-related
financial risk, was born as the land smouldered.

The new law in California will require Calpers (the California Public Employees’
Retirement System), which oversees $360bn in assets, and Calstrs (the $228bn
California State Teachers’ Retirement System) to report publicly on the
climate-related financial risk of their public market portfolio.

The legislation defines this risk as “the effects of the changing climate, such as
intense storms, rising sea levels, higher global temperatures, economic
damages from carbon emissions, and other financial and transition risks due to
public policies to address climate change, shifting consumer attitudes,
changing economics of traditional carbon-intense industries”.

The reports will begin in 2020 with updates every three years. They must
describe the actions the funds will take to address these risks, such as
shareholder proposals they make to companies in which they invest.

“Given the potentially catastrophic consequences of climate change, the

documented social and economic cost of carbon and the emerging body of
literature on the material financial risks of climate change, retirement boards
simply cannot disregard financial climate risks,” the act states.

The size of the US investment market means investors concerned with

environmental, social and governance factors can be offered options. The
country has, however, lagged behind Europe and Canada over embedding those
considerations into mainstream investing. Environmental issues in particular
have played second fiddle to a focus on governance.

Now the picture is changing amid increasing concern for the environment,
support from policymakers and a push by asset owners to minimise climate-
related risks.

The $207bn New York State Common Retirement Fund and Calpers were
among the top scorers in the asset owners disclosure project, a survey that
examined what the biggest public pension funds are doing to address climate-
related risk.

Those funds, though, were outliers when it came to the US as a whole.

The NYSCRF was the only US fund in the top five of the survey, compiled by
ShareAction, a responsible investment organisation.

The reasons the US is behind are not clear.

Julie Gorte, senior vice-president for sustainable investing at Impax Asset

Management and Pax World Funds, said there had been a touch of arrogance
among those asset managers who dismissed the environment as irrelevant so
long as they were making money.

Julie Gorte: Calpers and Calstrs are 'the 800lb gorillas of the landscape; what they do matters a lot'

“The US is a financial powerhouse [so there was a sense that] if I don’t know
something it’s not important,” said Ms Gorte of attitudes towards climate risk.

Fran Seegull, executive director of the US Impact Investing Alliance, a non-

profit organisation that promotes environmental and social considerations in
investing, said: “There is a recalcitrant belief that if you take ESG factors into
account there will be a financial trade-off.”

She said there was a lack of desire among portfolio managers to incorporate
new approaches, in part out of fear of litigation should things go wrong. She
said managers are now concerned they may face a legal challenge if they do not
adjust portfolios to account for new risks.

Climate-related risks include fossil fuel reserves being deemed unburnable

because of environmental regulations and assets being subject to writedowns
during a shift to renewable energy.

The new California legislation is “an important signal for the investment
market”, said Jack Ehnes, chief executive of Calstrs.

“The conversations have shifted. There’s a framing of the issue [as one] that has
a very strong business argument,” he said, adding that understanding the risk
to investments is critical.

Pension funds are particularly concerned because they have long-term

liabilities likely to be affected by a shift in weather patterns.

Asset owners are attuned to these risks, said Chris Fowle, head of Americas at
the Principles for Responsible Investment, the UN-backed responsible
investment initiative. “You’re being asked: what are you doing on ESG?” he
said. “They have long-term liabilities. Climate change, they feel, is an important
issue.”
Calpers was among the top scorers in an asset owners disclosure project

The US accounts for 391 signatories to the PRI out of a total of 2,116. Europe
accounts for more than half of members but the US constitutes the biggest
country by number of signatories.

Others including Ms Seegull point to generational factors as a spur for change.

“There’s a coming wealth transfer to millennials. Women and millennials are
more interested in investing in accordance with their values,” she said.

Ms Gorte stated bluntly that many Americans need only look out of the window
this year to observe extreme weather and understand the urgency of the issue.

Climate change has been linked by scientists as a factor in wildfires that raged
in Greece, Norway and Japan, as well as California.
Janet Cox of Fossil Free California says the bill is essential

“The generations who are coming up do get the need for sustainability,” she
said, referring to both clients and the new generation of portfolio managers.

The two environmental groups that sponsored the bill hope it will encourage
pension funds to push harder for change at the companies in which they invest.

“As long as shareholder engagement is the preferred method of changing the

world, this bill is essential,” said Janet Cox, a board member at Fossil Free
California, one of the groups.

Investors also say international climate initiatives play an important role in

educating investors.

The most important are the 2015 Paris climate change agreement, which aims
to limit global warming to “well below” 2C above pre-industrial levels, and the
Task Force on Climate-related Financial Disclosures, which has guidelines for
disclosing climate risks and is backed by the Financial Stability Board.

“The Paris agreement has been a lightning rod for action and attention for
climate change risk in portfolios, and opportunities,” said Emily Chew, global
head of ESG at Manulife Asset Management. “Since Paris there is an increasing
sense of conviction among the investment community that the physical risks
themselves are too dire to ignore.”

Yet interest in climate-risk disclosure, and the best ways to approach the issue,
is at odds with rhetoric at federal level.

Donald Trump has been sceptical over climate change © AP

US president Donald Trump has pulled the country out of the Paris climate
agreement and his administration has set out proposals to replace the Obama-
era clean power plan with lighter-touch rules, while exploring ways to revive
the coal industry.

Mr Trump has consistently demonstrated his scepticism over climate change,

writing a tweet in 2012 that global warming was a Chinese invention to
undermine US competitiveness. He poured scorn on the idea of global warming
during cold weather in New York in December.
Investors, though, say what is happening at the federal level is largely irrelevant
for how fund managers think about climate risk.

“That's not a focus for me or something I would say has affected the adoption of
ESG integration,” said Ms Chew.

In fact, Mr Trump’s words and deeds appear to have galvanised many

policymakers to push for change.

Thomas DiNapoli, New York’s state comptroller and sole trustee of the
NYSCRF, said last month that climate change was “one of the greatest threats
to the long-term value of global investors”.

“Whatever President Trump says or does regarding the Paris agreement, it will
not weaken the resolve, both at home and abroad, to make the agreement’s
goals a reality,” said Mr DiNapoli.

On the west coast, the Golden State’s progressive image has burnished its
credentials for being out in front nationally for its thinking on climate change.

“In the current political climate the states are taking action,” said Ms Seegull.

Given the size of Calstrs and Calpers, the new legislation in California could be
a game-changer, Ms Gorte pointed out.

“They tend to be the 800lb gorillas of the landscape,” she said. “What they do
matters a lot.”

There are already signs of greater recognition that environmental issues will
become more significant in investment decisions.

Seventeen per cent of US investors believe environmental factors often or

always affect share prices, according to a CFA Institute study, but 39 per cent
believe environmental factors will become a bigger issue in the next five years.

“These last few years have been a combination of floods and fire,” said Mr
Ehnes.
He said that when he meets members of Calstrs’ 900,000-strong army of
teacher fund members, one of their priorities is asking how their fund
managers are dealing with climate risk.

As the state recovers from its dreadful summer, those concerns are now “front
and centre”, he said.

Al Gore: why sustainable investing makes financial sense