In our recent Expected Returns, ‘The Age of Confusion’, we included the impact of climate change in our estimated returns for each asset class for the second consecutive year. Our methodology is still developing but we are clear that climate change will have a growing impact on investment returns in the years and decades to come, and in this insight we share what we have learned so far about modeling this impact.
The first instinct of investors when considering a hugely significant global challenge like climate change has been an understandable one – to exclude obvious climate change contributors during portfolio construction. In a recent survey, 27% of global investors have made public pledges for net-zero portfolios in or before 2050. As part of this, institutional investors plan to divest 19% of their portfolios because they are too carbon intensive, mostly in the asset classes equities and corporate bonds. This may lead to negative price pressure on assets with a high carbon footprint, leading to lower returns on the medium term.
We believe it’s potentially illuminating to consider the impact on expected returns of the physical risks (like floods or droughts) and the impacts of transition risks (like changing investment patterns, regulations or taxes designed to mitigate against climate change) on all asset classes. In this way we will get a holistic picture of how investors can take climate change into account for portfolio construction and investment decision-making purposes. Using this framework and taking into account other variables where appropriate like the discount rate, economic growth, and the carbon price, we assessed how climate change is likely to impact different asset classes from 2023-2027.
We assessed the climate change impact on developed market government bonds as neutral over the next five years. This is because government bond returns tend to be positively related to real economic growth, and negatively related to higher inflation. In the next five years the climate impact alone is likely to reduce growth below the previous trend level.
Penn2 (2022) surveys 55 academic studies on the effect of climate change and reports that the estimates vary considerably depending on the methodology used and geography examined. He finds an annual 0.3% lower global GDP a realistic synthesis versus a business-as-usual scenario. For inflation we believe the trend towards renewable energy is having an inflationary impact, an example of a transition cost. These two climate impacts, a lower GDP growth trajectory, and higher inflation due to transition costs, will cancel each other out from an expected returns perspective.
While the same dynamics apply as in the developed market assessment, there is a negative climate signal for investments in emerging market debt over the next five years. We can identify at least two reasons why credit spreads of countries that are more vulnerable to climate change may be wider than comparable countries with less climate risk.
First, the physical risks are likely to be larger, leading to higher government expenses to repair damage resulting from climate-related disasters such as floods and storms. Second, energy in emerging markets is more likely generated cheaply but with low carbon efficiency, for example through coal-fired plants.
Large investments to change to more carbon-efficient technologies are required, and typically the government has to pick up part of the bill. In emerging markets this combination of physical risks and transition risks will lead to higher yields, and therefore be negative for bond returns in our assessment.
Applying the same method we used for corporate bonds, we assessed the climate risks of different sectors, both in developed market and emerging equities, in Figure 3. We evaluated carbon footprint, Climate Value at Risk, implied temperature rise, and this time also climate beta. This is a proprietary Robeco measure that indicates how sensitive the return of a stock is to the excess return of a polluting-minus-clean factor. Based on these variables we expect a negative but limited impact on overall expected developed market equity returns from the repricing of climate risk over the next five years.
These measures indicate emerging market equities are more vulnerable than developed market equities when it comes to climate change risk, mainly because of a much higher carbon footprint and projected temperature rises, so we give a negative climate signal.
On balance, we give a positive climate signal to commodity markets, as we expect climate change will put upward pressure on commodity prices.
We have presented data modeling the climate change impact on asset class returns and, so far, for the largest asset classes like DM government bonds, that impact is limited. Nevertheless, it is clear that small changes in some variables like the carbon price could have an outsize effect on returns in the future. We expect more measurable climate impact each time we do our 5-year Expected Returns, and as the quality of data and our methodology improves.
1 Carbon Beta: A Market-Based Measure of Climate Risk by Joop Huij, Dries Laurs, Philip A. Stork, Remco C. J. Zwinkels: SSRN https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3957900
2 Penn, M., 2022, “Assessing climate impacts on growth”, Absolute Strategy Research.
The contents of this document have not been reviewed by the Securities and Futures Commission ("SFC") in Hong Kong. If you are in any doubt about any of the contents of this document, you should obtain independent professional advice. This document has been distributed by Robeco Hong Kong Limited (‘Robeco’). Robeco is regulated by the SFC in Hong Kong.
This document has been prepared on a confidential basis solely for the recipient and is for information purposes only. Any reproduction or distribution of this documentation, in whole or in part, or the disclosure of its contents, without the prior written consent of Robeco, is prohibited. By accepting this documentation, the recipient agrees to the foregoing
This document is intended to provide the reader with information on Robeco’s specific capabilities, but does not constitute a recommendation to buy or sell certain securities or investment products. Investment decisions should only be based on the relevant prospectus and on thorough financial, fiscal and legal advice. Please refer to the relevant offering documents for details including the risk factors before making any investment decisions.
The contents of this document are based upon sources of information believed to be reliable. This document is not intended for distribution to or use by any person or entity in any jurisdiction or country where such distribution or use would be contrary to local law or regulation.
Investment Involves risks. Historical returns are provided for illustrative purposes only and do not necessarily reflect Robeco’s expectations for the future. The value of your investments may fluctuate. Past performance is no indication of current or future performance.
Please read this information carefully.
This website is prepared and issued by Robeco Hong Kong Limited ("Robeco"), which is a corporation licensed by the Securities and Futures Commission in Hong Kong to engage in Type 1 (dealing in securities); Type 4 (advising in securities) and Type 9 (asset management) regulated activities. The Company does not hold client assets and is subject to the licensing condition that it shall seek the SFC’s prior approval before extending services at retail level. This website has not been reviewed by the Securities and Futures Commission or any regulatory authority in Hong Kong.
2. Important risk disclosures
2. Important risk disclosures Robeco Capital Growth Funds (“the Funds”) are distinguished by their respective specific investment policies or any other specific features. Please read carefully for the risks of the Funds:
3. Local legal and sales restrictions
The information contained in the Website is being provided for information purposes.
Neither information nor any opinion expressed on the Website constitutes a solicitation, an offer or a recommendation to buy, sell or dispose of any investment, to engage in any other transaction or to provide any investment advice or service. The information contained in the Website does not constitute investment advice or a recommendation and was prepared without regard to the specific objectives, financial situation or needs of any particular person who may receive it. An investment in a Robeco product should only be made after reading the related legal documents such as management regulations, prospectuses, most recent annual and semi-annual reports, which can be all be obtained free of charge at www.robeco.com/hk/en and at the Robeco Hong Kong office.
4. Use of the Website
The information is based on certain assumptions, information and conditions applicable at a certain time and may be subject to change at any time without notice. Robeco aims to provide accurate, complete and up-to-date information, obtained from sources of information believed to be reliable. Persons accessing the Website are responsible for their choice and use of the information.
5. Investment performance
No assurance can be given that the investment objective of any investment products will be achieved. No representation or promise as to the performance of any investment products or the return on an investment is made. The value of your investments may fluctuate. The value of the assets of Robeco investment products may also fluctuate as a result of the investment policy and/or the developments on the financial markets. Results obtained in the past are no guarantee for the future. Past performance, projection, or forecast included in this Website should not be taken as an indication or guarantee of future performance, and no representation or warranty, express or implied, is made regarding future performance. Fund performance figures are based on the month-end trading prices and are calculated on a total return basis with dividends reinvested. Return figures versus the benchmark show the investment management result before management and/or performance fees; the fund returns are with dividends reinvested and based on net asset values with prices and exchange rates of the valuation moment of the benchmark.
Investments involve risks. Past performance is not a guide to future performance. Potential investors should read the terms and conditions contained in the relevant offering documents and in particular the investment policies and the risk factors before any investment decision is made. Investors should ensure they fully understand the risks associated with the fund and should also consider their own investment objective and risk tolerance level. Investors are reminded that the value and income (if any) from shares of the fund may be volatile and could change substantially within a short period of time, and investors may not get back the amount they have invested in the fund. If in doubt, please seek independent financial and professional advice.
6. Third party websites
This website includes material from third parties or links to websites maintained by third parties some of which is supplied by companies that are not affiliated to Robeco. Following links to any other off-site pages or websites of third parties shall be at the own risk of the person following such link. Robeco has not reviewed any of the websites linked to or referred to by the Website and does not endorse or accept any responsibility for their content nor the products, services or other items offered through them. Robeco shall have no liability for any losses or damages arising from the use of or reliance on the information contained on websites of third parties, including, without limitation, any loss of profit or any other direct or indirect damage. Third party off-site pages or websites are provided for informational purposes only.
7. Limitation of liability
Robeco as well as (possible) other suppliers of information to the Website accept no responsibility for the contents of the Website or the information or recommendations contained herein, which moreover may be changed without notice.
Robeco assumes no responsibility for ensuring, and makes no warranty, that the functioning of the Website will be uninterrupted or error-free. Robeco assumes no responsibility for the consequences of e-mail messages regarding a Robeco (transaction) service, which either cannot be received or sent, are damaged, received or sent incorrectly, or not received or sent on time.
Neither will Robeco be liable for any loss or damage that may result from access to and use of the Website.
8. Intellectual property
All copyrights, patents, intellectual and other property, and licenses regarding the information on the Website are held and obtained by Robeco. These rights will not be passed to persons accessing this information.
10. Applicable law
The Website shall be governed by and construed in accordance with the laws of Hong Kong. All disputes arising out of or in connection with the Website shall be submitted to the exclusive jurisdiction of the courts of Hong Kong.