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Responsible Investment: financial institutions taking a lead on climate action

As momentum builds towards achieving deep and fast cuts to greenhouse gas emissions, financial institutions are mobilising to embed responsible investment principles in their lending and other business practices. This is the first of a three-part thought leadership series on responsible investment. Here, we provide an overview of responsible investment and bring awareness to the immense activity in this space. In part 2, we detail some of the pioneering tools and methods developed to help advance the sector towards responsible investment such as the Partnership for Carbon Accounting Financials (PCAF), and we will showcase examples of responsible investment in action with case studies in Part 3.

Australia’s financial institutions mobilising towards responsible investment

In April 2021, the Australian Prudential Regulation Authority (APRA) released its draft practice guide on climate risk disclosure. This practice guide is designed to help APRA-regulated financial institutions – banks, insurers and superannuation trustees, to manage risks and opportunities associated with climate change. In addition to regulatory guidance, financial institutions have begun to recognise incentives on multiple fronts for demonstrating leadership on responsible investment and driving positive change on environmental, social and governance (ESG) issues.

Australian financial institutions are well aware that climate represents one of the most critical emerging investment risks for lenders globally, a notion reinforced by recent comments made by the Australian Banking Association and others to the parliamentary inquiry on trade and investment.

At a global level, financial institutions anticipate increasing regulatory and prudential obligations with respect to climate risk disclosure. In France for example, investors are familiar with reporting obligations on climate risks with the introduction of Article 173 in 2015. Earlier this year, France strengthened and reinforced this obligation for investors with the introduction of Article 29, broadening the scope to integrate biodiversity impacts. We expect to see greater attention placed on the role of financial institutions as we lead into COP26 in Glasgow later this year.

At the global level, there are two forces prevailing on bank operations: the need to disclose information relating to climate exposures and the need to calculate the potential risk of climate change on banks’ balance sheets. These requirements are driven by two international governance setting bodies, of which Australian regulators and Australian companies are members. ABA 2021

In general however, Australian financial institutions are not waiting for stronger regulatory and compliance obligations placed on them to address climate risk. Leading Australian financial institutions (namely Australian Ethical Investment, Bank Australia, Teachers Mutual Bank and Westpac Banking Corporation) have joined many global institutions to commit to a Science-Based Target (SBT). Many more have banded together with climate scientists to create consistent frameworks such as the Climate-KIC Australia by which to achieve climate-related financial disclosures and even gone so far as to collectively push back towards government, to encourage the establishment of a sustainable finance roadmap for Australia.

Part of this voluntary action by Australian financial institutions is about responding to shareholder and public expectations to do more to address climate change. Consumer research conducted by the Responsible Investment Association Australasia in 2020, revealed an overwhelming majority of Australians now expect their savings (87%) and superannuation funds (86%) to be invested responsibly and ethically. More than two in three Australians do not want their money to cause harm to the planet such as environmental degradation, fossil fuels, or logging.

What is Responsible Investment?

According to the Responsible Investment Association of Australia, responsible investment, also known as sustainable or ethical investment, is a broad-based approach to investing which factors in people, society and the environment, along with financial performance, when making and managing investments.

The responsible investment framework helps to align the activities of financial institutions with environmental and climate commitments made by governments, in addition to recognising and meeting the shifting cultural and social expectations of shareholders and the general public. In broad terms, it:

  • Delivers competitive returns (responsible investment funds consistently outperformed mainstream funds over most time frames and asset classes, according to annual research commissioned by RIIA),
  • Helps to manage ESG risk, and
  • Contributes to system stability, robustness and economic sustainability.

Initiatives led by and for Financial Institutions

Climate League 2030 is another recent example of an industry-led initiative by Australian financial institutions, coordinated by the Investor Group on Climate Change (IGCC) and committing participating institutions to significant and rapid action towards emissions reductions across the themes of goal-setting, collaboration and investing, in line with the Paris Agreement

Figure 1. Better practice in the management of climate change financial risks. Source: APRA 2021. Prudential Practice Guide: Draft CPG 229 Climate Change Financial Risks

Globally, seven of the largest investment groups (AIGCC, CDP, Ceres, IGCC, IIGCC, PRI and UNEP FI) have forged a high-powered collaboration known as the Investor Agenda to advocate for rapid climate action across the sector. The collaboration has also developed the Investor Climate Action Plans (ICAPs) – a single, comprehensive framework providing guidance on strategy, target setting, engagement, and disclosure for investors at all stages along their climate action journey. 

This collective activity has created a growing momentum of financial institutions seeking to measure and subsequently manage not only their own operational emissions, but also their financed and portfolio emissions.

At Ndevr Environmental, we’re a trusted advisor for several leading financial institutions, and continue to support them in achieving their emissions reduction targets, including through measurement, reporting and achieving certified carbon neutrality in accordance with the Climate Active framework.

Increasing maturity of understanding and managing climate risk

Going carbon neutral is a positive first step, however, financial institutions have an opportunity, and a responsibility, to advance their purview of influence towards the responsible management of their financed portfolios. The challenge then becomes a question of how to go about the complex task of measuring, setting reductions targets and then ultimately communicating with influence, to achieve reductions in emissions from asset owners and operators under their financed portfolio.

With growing interest in this space, tailored measurement tools for the financial sector have been developed by the Partnership for Carbon Accounting Financials (PCAF), based upon the industry gold-standard Greenhouse Gas Protocol (see Figure 2). In part 2 of this thought leadership series on responsible investment, we will take a closer look at the PCAF Standard, not just as a powerful tool for financial institutions to measure and disclose emissions associated with financed loans and investments, but also as a means to strengthen co-operation and enable learnings both in our region and globally.

Figure 2. Cluster of climate initiatives tailored to the financial sector. Source: PCAF, 2020.

As financial institutions mature in their understanding of responsible investment and the duty they hold to help steer the economy towards significant and expedient emissions reductions, their power to wield significant influence as critical agents for change will expand.

Imagine if just a portion of the $4.1 trillion invested each year in Australia were done so with emissions reduction principles embedded in the decision making, disclosure and reporting process? This could have truly transformational outcomes for the low carbon economy we must create. Ndevr Environmental is currently working with one of Australia’s most progressive financial institutions to introduce the PCAF standard into their organisation. We understand this will be one of the first implementations in Australia and we’re looking forward to sharing more details in the near future.

Get in contact if you’d like to learn more about Responsible Investment, PCAF, or to discuss how we can support your financial institution become a leader in this space. 

Email us on environment@ndevr.com.au or call 03 7035 1740.

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