State Street Global Advisors’ latest survey finds 20% of European investors have formally committed to specific decarbonisation targets to achieve a net zero portfolio by a certain timeframe, which broadly reflects the global average and challenges the perception that investors in Europe are more committed to net zero goals than their peers in other regions. However, 35% are actively exploring how they can set these portfolio targets, and expect to do so in the near future.
Encouragingly, 97% of those who have not yet set decarbonisation targets intend to do so within the next three years, indicating that Europe remains quite progressive when it comes to implementing decarbonisation investment strategies.
For those in the region who are yet to set decarbonisation targets, the primary barrier to doing so was the prospect of a negative impact on investment decision-making and performance, a view that is shared by investors around the globe.
Delving further into how this transition is expected to proceed, 58% of investors in Europe are increasing their tracking error budget. The issue of tracking error against a strategic benchmark arises in most client conversations around ESG integration and investment performance. As ESG considerations often differ between investors, the implications of adding an ESG dimension for investment processes will lead to differing views as to what is considered a low or high tracking error. Additionally, as investors increasingly become aware that incorporating ESG is not detrimental to value in the long run, tracking error attributable to ESG integration (relative to traditional benchmarks) will become less of a concern, which should favour increased ESG adoption.
“The disruptive effects of climate change inevitably affect how investors think about valuations and risk. It should also impact how we think about conventional benchmarks. Decarbonisation highlights the need for bold action to either broaden tracking error allowances or move to more appropriate carbon or climate-focused benchmarks,” said Karen Wong, global head of ESG and Sustainable Investing at State Street Global Advisors.
The findings also demonstrate that investors now view ESG considerations in a more nuanced manner than previously. A pure divestment approach is not the preferred route for investors in Europe, demonstrating a growing understanding of the value of engagement and a robust stewardship programme towards creating a positive impact and enhancing value.
“Similar to global peers, European asset owners prefer engagement rather than divestment, with the majority of them confident in their ability to decarbonise without substantial divestment. Academic evidence shows that engagement and voting have the power to create positive impact and enhance value. At State Street Global Advisors, we believe impactful engagement is particularly important for index asset managers, who cannot divest their holdings due to investment mandates. Therefore, engagement and proxy voting become critical tools for oversight of corporate management on climate-related disclosure and practices,” added Wong.