Greening Finance: embedding sustainability in financial decision making Contents


Climate change and other environmental problems pose financially material threats to our economy. In the coming years and decades these financial risks will become even more apparent. In the time it takes today’s young people to reach retirement age the projected rise in sea levels and the increased frequency and intensity of extreme weather events will have increasingly serious economic consequences for a range of investments–from food and farming to infrastructure, home building and insurance. Sectors and companies that do not make a timely low-carbon transition may also face costly regulatory or legal action as the world implements the Paris Agreement. Despite this, many financial institutions, businesses and regulators continue to ignore the financial risks and opportunities associated with climate change and other sustainability issues. Proper recognition and disclosure of these risks and opportunities would help financial markets work more efficiently and will enable UK institutions and investors to position themselves to benefit from the low-carbon transition.

Structural incentives across the UK investment chain encourage a focus on short-term returns, often to the neglect of longer-term considerations–including environmental sustainability and climate change-related risks and opportunities. Confusion about the extent to which pension trustees have a duty to consider environmental risks can also prevent institutional investors taking action to address climate change risks. Our own survey of the UK’s top-25 pension funds (with £550 billion in investments) shows performance is mixed. In some quarters we encountered an outdated perception that climate change is purely an ethical or corporate social responsibility issue rather than a real material risk to present and future value. The Government should clarify that pension schemes and company directors have a fiduciary duty to protect long-term value and should be considering environmental risks in light of this.

Pension savers should be given greater opportunities to engage with decisions about where their money is invested. There is evidence that younger generations would often prefer to see their money invested in a fossil fuel-free manner. They should be given greater opportunity to express this preference. We were surprised to learn that there is no requirement for pension fund trustees to engage with beneficiaries when devising their Statement of Investment Principles (SIP), or for other governance bodies to act similarly. Nor is there even a requirement to communicate the SIP to beneficiaries once it is completed. The Government should require fiduciaries to actively seek the views of their beneficiaries when producing SIPs.

There is growing international momentum behind moves to encourage financial reporting on sustainability. The Government has endorsed international recommendations on climate-related financial disclosures and says it has ‘encouraged publicly-listed companies’ to implement them. However, Ministers do not appear to have taken any specific actions to do this. Given the long time-scales and large sums of money involved in the management of pension schemes, it is important to ensure that climate risk reporting applies equally to asset owners (such as pension funds) and their investment managers, not just listed companies as the Government has suggested. These groups should be given time to adapt and develop how they report on climate-related risks and opportunities. But we do not believe a voluntary approach—in the medium term—will be effective. The Government should make reporting mandatory on a ‘comply or explain’ basis by 2022.

The UK’s existing framework of financial law and governance could and should be used to implement climate-related risk reporting. The Government should now issue guidance making it clear that the Companies Act 2006 already requires companies to disclose climate change risks where they are financially material. The Financial Reporting Council’s (FRC) Corporate Governance Code and UK Stewardship Code, and the Financial Conduct Authority’s (FCA) listing rules should likewise be amended to require climate-related financial disclosures on a comply or explain basis by 2022. Embedding climate risk reporting in relevant UK corporate governance and reporting frameworks could negate the need for new legislation. The Government should review implementation after a year. If regulators fail to implement this appropriately and improve how they monitor the management of climate risk then the Government should pass new sustainability reporting legislation, similar to France’s Article 173.

There are inadequacies in how the UK’s framework of financial regulation is currently managing climate change risk. Among financial regulators in the UK, only the Bank of England and its Prudential Regulation Authority have given the issue the attention it requires. There is a compelling case for other regulators to use the current round of adaptation reporting required by the Climate Change Act 2008 to integrate climate change risk management into their work.

Published: 6 June 2018