Directing capital towards sustainable investments

Global urban growth engine

Currently, more than half of the world’s population lives in cities already. That number will continue to grow dramatically. By 2050, 70 per cent of the world’s population is expected to live in cities. This bulk of this shift, amounting to 90 per cent of urban expansion, will occur in the developing world.

Tremendous opportunities for social and economic development lie at the heart of this megatrend. Cities are powerhouses of economic growth contributing about 80 per cent of global GDP 1. Historical data suggest that on average, urban populations have higher living standards than in rural areas, and for many, cities provide a way out of poverty.

However, urban areas around the world currently suffer from complex challenges related to quality of life, transportation and pollution, among others. For this megatrend to result in cities that are better to live and work in, much smarter urban planning and more sustainable urban development is needed.

Transformation required

Making cities sustainable means creating career and business opportunities, safe and affordable housing, and building resilient societies and economies. It involves investment in public transport, creating green public spaces, and improving urban planning and management in participatory and inclusive ways.

Significant investment potential

In this context, companies that are deliver products and services for efficient urban planning, seamless transport, better water management, energy-efficient infrastructure and sustainable construction, are well-positioned to grow and thrive. While there are many dimensions to the transformation, three themes in particular stand out that Storebrand Smart Cities is focused on.

The first of these is urban planning, including energy-efficient and functional built environments, which plays a central role to mitigate and adapt to climate change worldwide; to mobility; and to water. Buildings account for almost 40 per cent of energy-related CO2 emissions (2). Green buildings have been graded as the segment with the highest investment potential in cities towards 2030, across all regions worldwide (3). Investment in resilient and energy-efficient buildings can deliver financial savings and reduce GHG emissions.

Another key theme is mobility, a major source of emissions and air pollution. Over 90 per cent of urban inhabitants breathe polluted air of worse quality than WHO’s recommended limit (1). With massive efforts begun, aimed at reversing urban air pollution, investment in clean technology to counteract negative emissions to air will be needed. In 2018, research by the International Finance Corporation’s suggested that the investment opportunity in electric vehicles and public transport combined could amount to USD 2.6 trillion (3).

Water Management is crucial for supplying high quality drinking water, minimising water loss, and adapting to climate change through resilient infrastructure. Climate-smart water systems are estimated to be the third most investable business opportunity worldwide, with a USD 1 trillion opportunity towards 2030.

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Sources:
1) UNDP. (n.d.). Goal 11: Sustainable cities and communities

2) World Business Council for Sustainable Development. (n.d.). Driving city scale action for energy efficiency in buildings. 

3) International Finance Corporation. (2018). Climate Investment Opportunities in Cities. 

By focusing on companies with sustainable business models that can help solve these themes, Storebrand can contribute to the fulfilment of the UN SDGs as an integral part of the investment services that we provide to our clients.

Previously, Smart Cities had been available to the Storebrand Group’s pension customers since 2018, but now Storebrand has made the fund available to all.

According to the UK Office of Rail and Road (ORR), just 38 per cent of Britain’s railways are electrified. Yet, electric trains have been estimated to emit as much as a third less carbon emissions than diesel ones.

Investment in electrified track and rail fleet infrastructure is therefore critical to meet UK Network Rail’s target of a net zero railway by 2050. The asset consists of a train fleet of 65 electric train sets to replace diesel trains. The trains run from London to Scotland on the East Coast Main Line, a key transport route on the eastern side of the UK.

The asset has a strong positive climate impact due to electrification of major train lines in the UK. In addition, it increases passenger capacity to relieve other modes of transport.

One of the important drivers that our strategy depends on, is the European Union (EU) adoption of the Sustainable Finance Action Plan (SFAP), as part of its “European Green Deal”. The goal of this initiative is to promote sustainable investment across and beyond the EU. The SFAP will come into effect in several stages, starting in March 2021.

The EU’s objective is for the union to be carbon-neutral by 2050, and the SFAP is a key part of reaching this goal. For the financial sector, there is a new Sustainable Finance Disclosure Regulation (SFDR) aiming to better classify and streamline the sustainability credentials of investment funds, and a new EU Taxonomy for classification of various economic activities. The taxonomy, which has six environmental objectives, will make it easier for investors to compare financial products promoting environmental characteristics.

The SFAP has three main objectives:

1. To reorient capital flows towards sustainable investment and away from sectors with high greenhouse gas emissions
2. To manage financial risks stemming from climate change, resource depletion, and environmental degradation
3. To foster greater transparency and long-termism in financial and economic activity in order to achieve sustainable and inclusive growth

The EU’s Sustainable Finance Action Plan is relevant for asset managers, pension funds, banks and insurers, among others. There will also be sustainability indices developed for better benchmarking and comparability of investment strategies and funds.

The EU Sustainable Finance Disclosure Regulation (SFDR) is a new set of EU rules for increased comparability and reduced greenwashing among financial products. The regulation will increase the information available for investors about both the potential positive and negative impact of their investments and the related ESG risk.

The new disclosure regulation is, together with the above-mentioned Sustainable Action Finance Plan a crucial part of the EU’s Sustainable Finance Framework and European Green Deal. The SFDR sets out strict criteria for the classification of funds that defines itself as sustainable. These criteria are described in the regulation’s Articles 6, 8 and 9. 

• Article 9 funds, also known as ‘products targeting sustainable investments’, covers products targeting bespoke sustainable investments and applies “… where a financial product has sustainable investment as its objective.”
• Article 8 funds, also known as environmentally and socially promoting’, applies “… where a financial product promotes, among other characteristics, environmental or social characteristics, or a combination of those characteristics, provided that the companies in which the investments are made follow good governance practices.”
• Article 6 covers funds that are not Article 8 or 9. However, sustainability may still be part of the portfolio manager’s process, e.g. by assessing the sustainability risk. This category covers all other products and consequently includes everything from funds that report sustainability as not relevant, to funds that have good integrations of sustainability, but which are not defined as such by the SFDR (for example, an index fund that excludes the worst companies from an ESG perspective).

Since 2012, Storebrand has developed and integrated a sustainability score providing a foundation for investment decisions, by ranking the companies on operations, products, and services. In this way, we can effectively identify companies that have the potential to deliver good returns, while helping to solve sustainability challenges.

The score is comprised of two main building blocks: ESG risks and SDG opportunities.

On the ESG risk side, the score assesses companies’ exposure to, and management of, financially material sustainability risks.

On the SDG opportunities side, we analyse sustainability data sources and use internal research on solution companies to find companies whose products and services contribute positively to the achievement of financially relevant SDGs.

The Sustainability Score is relevant across asset classes. Portfolio managers at Storebrand Asset Management can access the score on several levels. Total Score, Risk Score, SDG Score, and scores for underlying themes within these building blocks, are all readily available.

The data sources underpinning the scores are external sources from quality-controlled data providers, coupled with internal research. We currently use the following providers:

• ESG Risks: Sustainalytics ESG Risk Rating (50%)
• SDG Opportunities - Products & Services: FTSE Russell Green Revenue Streams plus internal research (40%)
• SDG Opportunities - Operations: Equileap data on Gender Equality (10%)

Implementation of the score is dependent on the style and risk profile of the fund/portfolio in question. The score can be used to better assess the ESG risk of a particular investment, for identifying companies with an attractive SDG positioning, or for assessing the overall exposure on ESG risk and opportunities of a portfolio. Implementation is dependent on the style and risk profile of the fund/portfolio in question. In addition, the score is used to optimise portfolios towards better-performing companies and to calculate an internal fund rating.

Through analysis, Storebrand Asset Management identifies what we classify as ”Solution companies” - ones with business models that contribute to achieving the SDGs through their products and services, without causing significant harm. Solution company investments are one of several ways that we help shift capital towards alignment with the Paris Agreement, in particular paragraph 2.1.c): ”Making finance flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development” and the SDGs, including social and climate solutions. A solution company should be compliant with the EU Taxonomy on Sustainable Finance if it is eligible for the classification system on sustainable business activities.

We assemble these identified companies into a ”Solutions database” that is available for fund managers in their research for investment ideas. The research and identification of solution companies is information that is also fed back to and represented in the sustainability score, ensuring an important feedback loop of information being made available to portfolio managers.

Our Solutions database also serves as a basis for our thematic portfolios, i.e., on climate solutions or smart cities, both as part of a larger investment portfolio or as thematic investment products. SAM provides broader solutions-oriented investment products, investing across the themes we have defined to be material, to achieve the overall ambition of the UN Sustainable Development Goals.