Three Investing Principles
So how can investors tap into the transition to a low-carbon economy? First, search for climate solutions across regions and sectors. Often, climate-focused funds are one-dimensional, with a narrow focus on popular industries such as renewable energy. With a diversified approach, investors can capture change in the drive for clean energy as well as areas such as resource efficiency, transportation, agriculture, water and infrastructure.
For example, Neste, a Finnish oil refining company, produces renewable diesel fuel from waste fat, residues and vegetable oils. In the materials sector, DSM of the Netherlands produces improved animal feed that helps cows burp less, which reduces the emission of enteric methane—the largest source of farm greenhouse gas emissions. Waste Management Inc., based in Houston, Texas, generates carbon emissions from waste processing, collection trucks and landfill methane. But the positive impact of its handprint from carbon reduction services is 3.3 times the negative impact of its carbon footprint.
In many cases, Scope 4 carbon emissions are a good guide to finding companies offering climate solutions. Scope 4 represents the avoided carbon dioxide emissions from the use of a product or service. Vestas Wind Systems provides a good example of the importance of Scope 4 emissions. The company’s Scope 1 and Scope 2 emissions—direct and indirect emissions generated during the manufacturing phase of its wind turbines—are dwarfed by the emissions avoided through the use of its products. In fact, the company estimates that every wind turbine helps avoid 40 times more emissions than those generated during the manufacturing stage.
Second, make sure that target companies have solid fundamentals; not every company focused on solving climate change is a good investment with strong long-term return potential and an attractive valuation. With a disciplined stock selection process, investors can find well-run companies with differentiated products, sustainable competitive advantages, high returns on capital and strong balance sheets.
Third, invest in portfolios that actively engage with their portfolio companies. Portfolio managers who engage with management can get a better idea of the impact and strategy of a company’s climate solutions—and the potential risks. Engagement also informs an in-house view that is more comprehensive than third-party ratings. And by encouraging firms to become more responsible corporate actors in their business practices, investors can help create additional shareholder value over time.
There’s no silver bullet to addressing climate change. As a result, many different technologies—evolving at varying speeds—will make important contributions to solving the world’s carbon emissions problem. For equity investors, we believe capturing a diverse set of companies with enduring carbon handprints can foster positive environmental change and strong long-term return potential in a climate portfolio.