Climate change is a core investment risk – is your portfolio ready?

Sustainable investing

Investors are now thinking about sustainability issues in their core portfolios. This is particularly true with climate change, where investors are starting to look beyond.


Climate change is top of mind for investors, as climate-related risks become more apparent and the environmental impacts of companies become easier to quantify. “Climate investing” is driving investors and advisors to look beyond the traditional environment, social and corporate governance focused (ESG) funds, towards opportunities in overlooked parts of the market.

While social factors are a key part of sustainability, they can be harder to define, explains Stephen Metcalf, head of sustainable investing for RBC Wealth Management in the British Isles and Asia. “People have heterogeneous preferences, whereas I think the consensus around climate change and tackling it is a bit stronger.”

He points to the UK government’s commitment to reach net-zero emissions by 2050 and the COP26 Glasgow Climate Pact, signed by 197 countries, aimed at reducing emissions and contributing financially to global climate change efforts. These two high-profile commitments are having an amplifying effect across investor portfolios and creating new risk considerations.

“The whole economy needs to transition, that’s going to affect the whole market,” says Metcalf. “And you need to reflect that in your portfolio, right? It’s not just a values-based thing; it’s a core investment risk.”

Sustainable investing is evolving

Over the past decade, sustainable investing has gained momentum as an alternative approach to investing. However, investors are now thinking about sustainability issues in their core portfolios. This is particularly true with climate change, where investors are starting to look beyond its role purely as a satellite investment, which traditionally was the case.

“We find ourselves now at an interesting pivot point” says Samantha Brown, a client relationship manager with RBC Wealth Management in London. ” Previously, many of the investment conversations that we were having around ESG were influenced by the next generation and them wanting to make a difference. Recently, that conversation has shifted towards first generation clients, acknowledging the longer-term benefits of investing with sustainability in mind, both from a returns perspective and looking at the real world impact of their investment decisions. Investors are becoming more interested in lifting the bonnet to understand their underlying investments and the related implications’ says Brown.

As of April 6, 2022, the largest UK-registered companies and financial institutions will be required to disclose climate-related financial information. According to the 2021 RBC Global Asset Management Responsible Investment Survey of institutional investors , the vast majority of European investors (80 percent) say they address climate risk in their investment policy, marking a 15 percent jump from 2020. Nearly half (45 percent) say government regulation is spurring more interest in sustainable investing.

Metcalf says all of RBC’s clients, regardless of whether they’re ESG clients, are already receiving reports on their portfolio’s sustainability profile. The reports reveal the overall percentage of each portfolio that’s allocated to environmental solutions. In addition, they highlight specific environmental factors, including carbon intensity, water efficiency and waste generation, as well as governance metrics like board independence and gender diversity. “We think it’s more meaningful and valuable for a client than just an ESG score.”

The sophistication of climate reporting is also adding a new dynamic to the investor–wealth manager relationship, adds Brown. “[Clients are] saying, “This scorecard is great – it’s 75 percent green, but what about this 25 percent – how are we addressing that that? ” she says. “It’s a definite change in the dialogue, challenging their own thinking, and challenging us in turn.”

Incorporating climate investing into your portfolio

In the past, the simplest way to approach climate investing in a portfolio was to invest in something like a renewable energy ETF or an environmental solutions fund. “Investing in those companies and allocating capital to capture some of the opportunity available is a really important part of it,” says Metcalf. “But if your whole portfolio becomes that, [it] can be quite concentrated.”

That concentration can leave an investor overexposed to risk. But there are other approaches that can be impactful while also mitigating risk and driving performance. “[Climate change] is a whole economy problem,” says Metcalf. “We have managers that will look for companies that aren’t necessarily in the sectors that easily jump to mind.”

Currently, the financial industry leans toward a “Best in Class” approach in which companies with good existing climate credentials are preferred. However, this new approach looks for opportunities in industries in overlooked parts of the economy still having to adapt to new regulations surrounding carbon neutrality and climate change. Metcalf points to industrials and basic materials. “Building materials, fertiliser, packaging – they are important products that we’ll continue to need, but we need to produce them sustainably and in a low-carbon way.”

Metcalf argues investing in these types of sectors and their ESG initiatives can have a wider impact than higher-profile industries such as energy and transportation where net-zero initiatives are more common knowledge and investors are already queuing up to invest. “You can diversify your portfolio that way and still maintain integrity from a climate perspective.”

The future of climate investing

According to the World Economic Forum’s Global Risks Report 2022 , climate action failure is the gravest threat facing the world over the next decade. While the UK is leading the way in terms of climate-related disclosures, commitments made during the COP26 will have a global impact, disrupting markets and creating new opportunities in the process. For investors, the key to capitalising and having a positive impact will be navigating these changes.

“People are far more empowered now than they ever were to have an impact if they want to – the information is readily accessible and people are more open and willing to have a dialogue on these things,” says Brown. “It comes down to how much of an impact you want to make.”

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