Op-ed: Capital markets must lead the transition to a net-zero economy

  • There has been an enormous rise in climate disasters over the past two decades, leading to the deaths of over 1.2 million people and affecting more than 4 billion people in total.
  • The owners of capital must immediately begin to reallocate their capital toward less emissions-intensive investments in line with broadly accepted climate scenarios. 
  • There are three broad approaches that asset owners should use to focus action and increase the pace and scalability of their impact.

In this article

  • MSCI

Climate change is the single greatest challenge humankind has faced and its consequences are already all too apparent.

There has been an enormous rise in climate disasters over the past two decades, leading to the deaths of over 1.2 million people and affecting more than 4 billion people in total, according to the UN Office for Disaster Risk Reduction.

The world's response to date has been inadequate to confront this existential threat to our planet. Current corporate carbon emissions targets are insufficient to avert a climate catastrophe.

On their current trajectory, listed companies will be scarcely greener in 2050 than they are today, with an estimated 80% of companies exceeding the emissions budget required to keep global warming under 2 degrees Celsius. 

Analysis by MSCI of its All Country World Investable Markets Index (MSCI ACWI IMI) — a measure of approximately 9,000 publicly listed companies across 50 developed and emerging markets with a market value over $70 trillion —  revealed those companies currently emit an estimated 11.2 gigatons of carbon dioxide equivalent (CO2e).

Our model indicates that, without any change to current practices, these companies will emit 16.8 gigatons of CO2e by 2050, leading to a planet that is 3.5˚C warmer by the end of the century. This trajectory demonstrates the tremendous challenge in reaching net-zero and the urgency to act now.

Addressing climate change will require the largest reconstruction of the global economy since the Industrial Revolution, and it is the owners of capital — whether institutions or individuals — that will be essential to effect this market-wide transformation.

It is in their interest to do so – in addition to saving the world, they will save their portfolios through long-term sustainable investments. The effects of climate change will significantly impact the pricing of financial assets, the risk and return of investments, as well as access to and the cost of capital.

The owners of capital must immediately begin to reallocate their capital toward less emissions-intensive investments in line with broadly accepted climate scenarios. 

There are three broad approaches that asset owners should use to focus action and increase the pace and scalability of their impact.

First, the owners of capital should target year-on-year decarbonization in line with what is needed to reduce the world's total carbon emissions by nearly 10% per year.

To do so, they could reduce their exposure to investments most at risk of becoming stranded as a result of climate change while directing capital toward the rapid development of clean energy alternatives and green technologies and infrastructure to drive a net-zero economy. This may require a shift in strategic asset allocation and risk management for institutional asset owners.

Second, asset owners need to monitor whether their shift in capital allocation shows the desired effect in not only greening their own portfolios but the global economy more broadly. They must be prepared to use intensive shareholder engagement as an additional lever with companies that lag.

Third, owners of capital should transition to an investment policy benchmark that provides clear direction and a reference point to help portfolios move toward net-zero. A climate index, for example, could be an option for certain asset owners who actively promote the path to a net-zero economy. 

Other capital-market participants also have critical roles to play in accelerating the pace of change. For example, asset managers need to build expertise to support clean energy, green technology and infrastructure investments.

Banks must finance entrepreneurs and innovators with the capital needed to invest and scale greener businesses, while new types of securities and green-friendly corporate lending practices are necessary to transition to net-zero.

Delivering on net-zero targets

Climate data and model providers like MSCI must also contribute by providing the transparency needed to evaluate the progress of decarbonization. MSCI will publish quarterly the MSCI ACWI IMI Net-Zero Tracker.

This report will indicate the aggregate temperature alignment of MSCI ACWI IMI with a 1.5˚C trajectory and highlight the companies and sectors in the index that are the leaders and laggards in making progress on the path toward net-zero.

Ultimately, companies must provide the primary solutions. The world will require them to deliver on their net-zero targets. These reduction targets must be comprehensive and credible, covering a company's direct and indirect emissions, including upstream, downstream and financed emissions.

Companies must also be incentivized by market forces to set and achieve net-zero commitments, including through shareholder and consumer preferences. 

As was the case during the Industrial Revolution, capital markets are an incredibly powerful and efficient force in accelerating progress. Accelerating the pace to achieve net-zero is what humanity desperately needs and what capital markets are uniquely capable of providing. Let us seize the opportunity. 

Henry Fernandez is the chairman and CEO of MSCI, a leading provider of critical decision support tools and services for the global investment community.

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