Net Zero investing and its impact on a 60-40 allocation
Monday 10 July 2023
Global warming and the Net Zero transition have far-reaching implications for investors.
For climate targets to be realised, the asset allocation decision can be implemented in different ways: using a passive climate-aligned benchmark, embracing a Net Zero active cross-asset allocation or using an active cross-asset strategy which incorporates specific targets for green investments. Asset owners will inevitably face trade-offs when introducing climate considerations into their portfolios. The most prevalent one is a trade-off between portfolio diversification and the incorporation of climate targets.
Our findings suggest that the short term financial cost of integrating Net Zero considerations into investors’ asset allocation is limited, and should be offset over the long run as corporates gradually transition towards low-carbon models. Although our analysis shows that incorporating Net Zero targets can be costly in terms of tracking error (TE) in the near term, the TE differential should be mitigated as the economy becomes more aligned towards a 1.5°C trajectory over the long term. On the other hand, the reduction in carbon intensity levels is significant as we incorporate Net Zero pockets into standard asset allocation strategies.
Finally, we believe that embracing climate considerations can have positive effects for investors over the long term and open active management opportunities in themes such as water quality, renewable energy, recycling / waste management, green buildings and green bonds.