The Case for Forceful Stewardship (Part 2): Managing Climate Risk

Abstract

If it reaches 4° or more, global warming may cause severe economic damage with the consequence that a significant portion of the value of a diversified equity investment portfolio will be placed at risk.

In the accompanying Part 1 we analysed this risk. We estimated that in a plausible worst case for climate damage the value at risk in 2030 may be equivalent to a permanent reduction of between 5% and 20% in portfolio value compared to what it would have been without warming. This risk can be substantially lowered by a rapid energy transition to reduce greenhouse gas emissions.

In this Part 2 we explore the actions investors should take to reduce risk. Long-term investors should consider doing whatever they reasonably can to bring a rapid energy transition about and investment fiduciaries may have an obligation to do so. Possible action includes voting for resolutions to change constructively the business strategies of the companies in which they are invested, particularly the fossil fuel companies. The resulting collective action problem may be solved if pension scheme members and other beneficiaries test legally the obligations of their investment fiduciaries in this regard. We call this assertive approach by investors to taking action to reduce climate risk ‘Forceful Stewardship’.

Keywords: Climate change, collective action problem, corporate governance, diversified portfolio, engagement, fiduciary capitalism, fiduciary obligations, forceful stewardship, global warming, greenhouse gases, investment fiduciaries, long-term investing, systemic risk, universal ownership, value at risk

JEL Classification: A13, C71, D21, D62, G12, G23, G30