This blog post was co-authored by Phoebe Saintilan
The ‘Paris Agreement’ was adopted on 12 December 2015 at the COP 21 UN Climate Change Conference (Conference). It may potentially herald the end of the fossil fuel era and a global move towards a low carbon future and renewable energy. This will undoubtedly influence the decisions of financial institutions and fiduciary investors (particularly pension funds) as they become more climate change conscious and sensitive to the risk of stranded assets.
In accordance with the emission targets adopted at the Conference, the Paris Agreement will inevitably result in stranded assets and unburnable fossil fuel reserves – it is just a question of time. This will in the future have a significant impact on the value of Australian reserves and the investors that continue to hold shares in the companies that own them.
As a result, fiduciary investors in Australia should take the time to understand the measures contained in the Paris Agreement and obtain updated, reliable and relevant information about climate risk in light of the renewed efforts to implement global climate regulation. The Paris Agreement increases the risk of stranded assets and the potential for significant adverse financial impact on investment portfolios containing them.
If there was any doubt before, the Paris Agreement has changed the conversation from climate conscious to climate compliance.
Read more – The Paris Agreement
The Paris Agreement signals a new era of global cooperation in addressing climate change. The main pillars of the Agreement are as follows:
- Holding increases in temperature to below 2 degrees Celsius and pursuing efforts to limit temperature increases to 1.5 degrees Celsius above pre – industrial levels;
- Increasing countries’ ability to adapt to the effects of climate change and foster climate resilience and low greenhouse gas emissions development; and
- Making finance flows consistent with a pathway towards low greenhouse gas emissions and climate resilient development.
Further, the Paris Agreement recognises the crucial role played by domestic policies and carbon pricing in providing an incentive for emission reduction activities.
Parties to the Paris Agreement will be required to prepare nationally determined contributions and establish domestic mitigation measures aimed at achieving those contributions. The Agreement will be open for signature from 22 April 2016 to 2 April 2017.
What does this mean for Australian investors?
Australia – one of the world’s highest per capita emitters of carbon – has agreed to a target of a 26 to 28 per cent reduction in greenhouse gas emissions below 2005 levels by 2030. The Climate Council has stated that, in order to achieve this target, over 90 per cent of Australia’s coal reserves must be left in the ground. This means that over the next decade, many of Australia’s reserves may be unburnable and these assets are more likely to become stranded.
A recent global survey of institutional investors conducted by Ernst & Young found that two of the biggest concerns for investors are climate change and the growing risk of stranded assets. A key finding of the survey was that 62.4 per cent of investors are concerned about the increasing risk of stranded assets. More than a third of respondents had divested their holdings of a company’s shares due to this risk. Interestingly, the Norwegian Government Pension Fund Global – the largest pension fund in the world – has recently undergone its largest ever fossil fuel divestment in response to the growing risk of stranded assets and unburnable reserves.
Stranded assets will become an increasing concern for Australian investors following the adoption of the Paris Agreement. Fiduciary investors should seek information regarding the risk of stranded assets to the companies that form part of their investment portfolios. It is also recommended that fiduciary investors actively seek information concerning the company’s environmental performance and whether the company has an internal framework for responding to climate change risks. It has been suggested by Bloomberg that failing to examine the environmental impacts of investments could potentially amount to negligence and a breach of the fiduciary duties of trustees.
Of course, this is a judgment call and will depend on the local laws and the particular circumstances of the investment decision. However, what is clear is that the Paris Agreement has significantly increased the importance of considering the impact of climate regulation on investment decisions, and has increased the investment risk in companies with significant carbon assets.
The unknown is how fast the measures in the Paris Agreement will find their way into Australian law and the laws of the countries in which Australian pension funds are investing. The concern around the impact of such measures on the value of fossil fuel assets and infrastructure may accelerate the divestment decisions of investors out of such assets and increase the risk for those investors who still hold those assets at a time when they are no longer financially viable.
Of course, institutional investors who are fiduciaries must act prudently, which requires them to make informed decisions that are based on reliable and relevant information about climate risk and stranded asset risk.
The lack of corporate disclosure of climate risks and liabilities has been highlighted by the OECD and is an obstacle for climate conscious investors seeking information from companies about environmental risks. The OECD has noted that investors are currently not provided with sufficient information that is necessary to reflect climate risks in their investment decisions. According to Bloomberg, 14 energy companies are facing shareholder resolutions on environmental policies. The number of shareholder resolutions on environmental policies has increased by 88 per cent since 2011.
In light of the Paris Agreement, fiduciary investors in Australia will have legal obligations to understand the measures contained in the Paris Agreement, and obtain reliable and relevant information about climate risk and stranded asset risk and the potential impact on their investment portfolios over the short, medium and long term.
To read more, visit:
- Our analysis of the Paris Agreement
- The Climate for Change: Spotlight on Australian Pension Funds
- Bloomberg Business on “Fossil-Fuel Divestment Gains Momentum With Axa Selling Coal”
- Ernst & Young, “Let’s talk: sustainability” Issue 5
- Climate Council on “Unburnable Carbon: Why we need to leave fossil fuels in the ground”
- RenewEconomy on “Investors finally focusing on risk of climate change, stranded assets, EY says”
 Norton Rose Fulbright, ‘COP21 – The Paris Agreement’ (2015)
 Climate Change Council, ‘Unburnable Carbon: Why We Need to Leave Fossil Fuels in the Ground’ (2015)
 Ernst & Young, ‘Tomorrow’s Investment Rules 2.0’ (2015)
 Bloomberg, ‘Fossil – Fuel Divestment Gains Momentum with Axa Selling Coal’ (2015)
 OECD, ‘Getting the most out of corporate climate disclosure’ (2015).