Universal Owners and Climate Change

Abstract

Universal ownership theory proposes that widely diversified investors have a financial self-interest at the portfolio level in reducing market-wide risks relating to environmental or social (ES) issues. This paper sets out a double test for determining when universal owner theory justifies investor action and applies these tests to the case of climate change. When applied to the commonly adopted goal of limiting global warming to 1.5C, universal owner theory runs into problems on both tests. First, there is some doubt whether this goal is financially optimal at the portfolio level. Second, even if it were optimal, investors have limited efficacy to achieve this outcome. We consider goals a climate-concerned investor might set and the actions they could take that would be consistent with our tests. Actions best supported by evidence involves four areas of focus. First, engagement with investee companies based on realistic goals. Second, positive engagement on policy. Third, modest and bounded impact investments that can credibly be considered as reducing climate risk. Fourth, working to ensure that transition and physical risks are fully incorporated into investment models. Through targeting a more modest set of ambitions, climate-concerned investors can be more impactful while avoiding conflicts with fiduciary duties to clients. 

Keywords: Universal Owners, Externalities, Global Warming, Climate Change, Institutional Investors, Fiduciary Duty

JEL Classification: B26, D62, G11, G23, G34