As more investors focus on sustainability, the conversation around making portfolios greener has become more advanced—and that’s a good thing! But the journey to decarbonizing investments isn’t straightforward.
Different investors have different goals, so there’s no one-size-fits-all solution. Here’s a look at how investors are approaching the challenge of building a climate-friendly portfolio.
Step 1: Choosing the Right Tools
The first step is figuring out how to make a portfolio greener. There are a few main strategies:
- Some investors aim to reduce the carbon emissions of the companies in their portfolio over time.
- Others focus on investing in companies with proven climate goals, like those recognized by the Science Based Targets initiative (SBTi).
- Some might track a portfolio’s Implied Temperature Rise (ITR), which shows how close companies are to meeting global temperature goals like keeping warming below 1.5 degrees Celsius.
Step 2: Deciding How Fast to Move
Once the right tools are chosen, the next question is how quickly to apply them. There are a few different paths investors can take:
- Go fast: Some investors choose to act quickly, shifting toward climate-friendly sectors and companies now. This can help reduce a portfolio’s carbon impact quickly, but it can also lead to more ups and downs in performance.
- Follow a steady path: Others take a more gradual approach, following the decarbonization timeline set by global agreements like the Paris Agreement. This is a smoother ride but could mean missing out on some early gains.
- Customise the strategy: Investors can also create their own path based on their expectations for the market. This is flexible but carries risks if the global climate policy suddenly changes.
Step 3: Balancing Risks and Rewards
Climate change brings both risks and opportunities.
- Transition risks come from the shift toward a low-carbon economy. Companies that don’t adapt could see their profits fall, while those leading the change might thrive.
- Physical risks involve the direct impacts of climate change, like extreme weather. Investors need to consider how climate risks affect their assets, especially in the long term.
On the opportunity side, there are big gains to be made by investing in companies that are part of the solution, like renewable energy providers or firms that are innovating for a more sustainable future.
Step 4: Avoiding Pitfalls
While there are lots of opportunities, sustainable investing isn’t without challenges. Many sustainable investments are concentrated in certain sectors, which means they can be volatile. For example, clean energy stocks can swing wildly based on market sentiment or geopolitical events.
To manage this risk, some investors are diversifying by adding sustainable blue-chip companies—established, well-performing companies with strong sustainability practices. These tend to be more stable and less prone to market ups and downs.
The Key to Success: Asking the Right Questions
The secret to finding the best decarbonization strategy is to ask the right questions. What are your climate goals? How much risk can you handle? What’s the long-term outlook for the sectors you’re investing in?
There’s no universal solution, but by focusing on these questions and using climate data to guide decisions, investors can find the right balance between risk and reward, and position themselves to thrive in a low-carbon world.
In today’s climate-conscious world, the journey to decarbonizing a portfolio is as important as the destination. For investors, there’s never been a better time to make both a positive impact and a profit.
