How good are carbon metrics? 

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Pension funds are starting to apply metrics recommended by the Task Force on Climate-related Financial Disclosures, but some see problems with the data feeding into portfolio analyses. 
The Avon Pension Fund, a local government scheme covering Bath and North East Somerset, says its equity portfolio is 25% less carbon intensive than its custom benchmark on a weighted average carbon intensity basis and has reduced its carbon intensity by 12% since last year. 
Avon Pension Fund is part of the Brunel Pensions Partnership, the local government pension fund pool with historically strong green credentials. 
The fund has published its eighth responsible investment report, for 2019/20, citing as its key achievements the doubling of its commitment to renewable infrastructure and increasing the assets allocated to sustainable equities from 3.5% to 10% of all assets. 
It also highlights that on a ‘weighted average carbon intensity’ basis, its portfolio is 25% less carbon intensive than its custom benchmark. 
The WACI metric shows a portfolio’s exposure to carbon intensive companies, and “because carbon intensive companies are more likely to be exposed to potential carbon regulations and carbon pricing, this is a useful indicator of potential exposure to transition risks such as policy intervention and changing consumer behaviour”, the fund states. 
The TCFD recommends asset owners and managers report WACI to their beneficiaries and clients. With WACI, a portfolio’s exposure to carbon-intensive companies is expressed in tons of CO2 emissions per revenue (in $m). 
The TCFD says the advantage of using this metric for emissions is that its calculation is relatively simple and easy to communicate to investors, and that it allows for portfolio decomposition and attribution of emissions. However, it notes that there are some downsides, such as its sensitivity to high or low outliers and the fact that by using revenue as a metric, WACI tends to favour companies with higher pricing levels relative to their peers. 
Carbon metrics are still in their early stages, and the TCFD says it is aware of “the challenges and limitations of current carbon footprinting metrics, including that such metrics should not necessarily be interpreted as risk metrics”. 
WACI, it says, should be seen as a first step, adding that it expects the disclosure of this information “to prompt important advancements in the development of decision-useful, climate-related risk metrics”. 
Other types of metrics include: 
  • ‘total carbon emissions’, showing the absolute greenhouse gas emissions associated with a portfolio; 
  • ‘carbon footprint’, which is the total carbon emissions for a portfolio normalised by the market value of the portfolio; 
  • ‘carbon intensity’, where the volume of carbon emissions per million dollars of revenue is expressed; and 
  • ‘exposure to carbon-related assets’, showing the amount or percentage of carbon-related assets in the portfolio. 
Applying carbon metrics seems easy on paper, but the practical implementation can be harder, as it relies on information from underlying companies about their direct and indirect emissions. WACI also excludes scope 3 emissions, which are indirect emissions that are not from the purchase of energy, such as outsourced activities or business travel. 

Company level disclosures need to improve 

Brunel, the pool which helps look after some of Avon’s assets, uses Trucost, part of S&P Global, to assess climate change risk; but not everyone is confident that carbon assessments work well. Brunel’s chief stakeholder officer James Russell-Stracey, said the pool’s third-party sources "are in turn partially reliant on the levels of corporate disclosure – depending on which measure one takes this is between 56-64% of companies provide the relevant information”. 
The depth and accuracy of company disclosures is where the crux is for some investors. Mark Tennant, who chairs the Centrica Combined Common Investment fund, previously commented that a company's carbon footprint “is what the company says it is”. 

Therefore, “we have no idea what [the] UK's carbon emissions are with any degree of accuracy”, he argued, which needs to change if carbon offsets are to be priced accurately. 

Others who have looked into the issue also see hurdles that are yet to be overcome. Paul Appleby, a trustee at the BP Pension Fund, said last month that “carbon footprint or carbon intensity metrics provide at best a poor indicator of potential exposure to climate risk at the company or asset level - and at worst could be quite misleading”. 
Understanding a firm's financial exposure to climate risk, he said, “requires a lot more than carbon emission metrics”. A company in a carbon heavy sector that is less carbon intensive than its competitors is better positioned than one that scores better on the surface, but falls behind against its competitors, he points out. 

“I haven't seen any modelling at the asset level that takes into account market structure,” he said. 
Should pension funds work with currently available metrics to make a start on carbon reduction or wait for more reliable data?
Mike Clark
Nick Spencer