Implementing LDI with swaptions - Russell Investments

STRATEGY TIMING IMPLEMENTATION
RUSSELL INVESTMENTS
OPINION
Climate change and investments,
or: “Why should I care?”
By: Greg Liddell, Managing Director, Consulting & Advisory Services—Australasia
Greg Liddell
1
Doran and Zimmerman,
University of Illinois,
Examining the Scientific
Consensus on Climate
Change, EOS Volume 90
Number 3, 20 January
2009.
2
US National Oceanic
and Atmospheric
Administration, National
Climate Date Centre
http://www.ncdc.noaa.
gov/indicators/
3
Stern Review on the
Economics of Climate
Change 2006.
Few issues have generated more skepticism than the subject of climate change. If 97% of the
world’s astronomers told us a large meteor would collide with the Earth on December 22, 2012
(the alleged last day of the Mayan calendar), we would not waste too much time arguing about
the veracity of their models. Rather, we would focus on building a rocket to destroy the meteor,
or at least to change its trajectory. However, when 97% of the world’s geoscientists 1 tell us that
anthropogenic (the politically correct term for “man-made”) carbon emissions are resulting
in 0.29ºF of global warming per decade, 2 with long-term but ultimately devastating impacts,
the consequence is a degree of skepticism that has led to years of procrastination. In my view,
fiduciaries do not have the luxury of procrastination.
So why should fiduciaries squeeze climate change considerations into governance budgets which
are already stretched? In my view, there are two answers to that question, one based on long-term
sustainable values and one based on responsibilities in relation to the management of risk.
Our current economy has a use-by date. Ultimately we will run out of fossil fuels and be forced to
transition to renewable sources of energy. Studies tell us that the longer we postpone the transition,
the more harm we will do to the planet, and the more costly and painful the transition will be. 3 Those
who adopt a broader view of fiduciary responsibility would argue that as effective owners of the
economy, fiduciaries should deploy capital not only to generate returns, but also to facilitate transition
to a sustainable economy and in doing so, protect and maintain the society and way of life of members.
On a shorter-term basis, fiduciaries should be aware of the risk to portfolios climate change poses.
Agencies such as the EPA can introduce regulations materially changing the economics of some
enterprises. State governments can introduce measures that effectively put a price on carbon,
and foreign governments can introduce measures impacting companies operating within their
jurisdictions—for example, U.S. airlines flying into Europe will need to purchase carbon credits from
January 2012. The physical risks associated with climate change should also not be ignored. Owners
of physical assets need to incorporate stress testing for climate-change scenarios in their due diligence
and ongoing management, or face potential losses and liability. Property must cope with rising
seawater and more violent storms, motorways must cope with heavier rainfall. The insurance industry
is already sending price signals in regard to climate change, increasing the price of insuring assets in
high-risk areas and increasing the number of areas deemed “uninsurable.”
An awareness of climate change does not mean fiduciaries should immediately invest large
proportions of their assets in wind farms and solar energy initiatives. Most climate funds lack
diversification and rely too heavily on government subsidies to generate returns. Climate change,
like economic cycles, interest rates and national debt, is a factor. Thought should be given to the
vulnerability of assets to either the financial or the physical risks associated with this factor, much
as fiduciaries consider the impact of increased interest rates on bond portfolios, or of decreased
consumer confidence on the stock prices of retail companies. The initial imperative for fiduciaries
is to educate themselves on the issues.
p / 11