Everyone knows their credit score, right? Companies like Credit Karma and LendingTree have popularized the mundane metric, making it mainstream for most Americans. In fact, according to iSpot.TV, Credit Karma has aired 13,299 ads in just the last 30 days!
So what if we could take the idea of credit scoring to one of measuring risk related to carbon? A carbon score would be a standard, recognized number that rates a company’s risk based on internal and supply chain emissions as well as a range of factors impacting technology innovation and marketing in the shift to a low-carbon economy. This carbon score would apply to companies in all sectors, well beyond just fossil fuel-based firms.
Investor interest is growing
Investors are starting to create just this type of carbon scoring. Let’s look at what BlackRock, S&P and Bloomberg are doing to create these tools. BlackRock, the world’s largest asset manager, believes that climate and carbon risks are underpriced in their portfolios, so has developed a holistic climate score accounting for physical, technological, regulatory and social risks. BlackRock aims to “climate-proof” their portfolios by investing in companies poised to benefit from a low-carbon economy, and by under-weighting companies that are ignoring global trends.
Many risks that BlackRock evaluates have a flip side of opportunity:
- Physical impacts (extreme weather, sea level rise and increasing temperatures)
- Technological developments (renewable energy, electric vehicles, batteries)
- Global regulatory requirements (such as France’s Energy Transition Law)
- Consumer activism and growing preference for sustainable products
While BlackRock’s scoring is for their own use, S&P has developed a similar metric for their corporate bond issuers. The S&P score ranks issuers on a five-point scale measuring exposure to Environmental, Social and Governance (ESG) risks, with a strong emphasis on environment.
Bloomberg has created a Portfolio Carbon Footprint analysis which they presented at the CDP Spring Workshop that I attended last April in New York. Bloomberg offers portfolio managers tools to evaluate the carbon efficiency, intensity and impact of their portfolios compared to a benchmark, using both proprietary and CDP data. Traders can drill down with attribution data to determine which sectors and companies are driving up a portfolio’s carbon risk, and reallocate as necessary while maintaining overall portfolio performance. The Bloomberg data allows investors to manage carbon risk in a way that I think of as an “efficient frontier” approach to balance risk and return.
These disparate efforts foretell just the beginning of investor interest in understanding carbon risk and the relevance to their investments. One challenge for broad adoption is that carbon risks show up over the long term, not in next quarter’s earnings, perhaps making these tools initially most attractive to longer term investors such as pension funds.
How should companies respond?
As adoption of these tools becomes more mainstream, companies would do well to understand what investors are looking for and how their share prices could be impacted. Capital reallocations could pose “phantom” risks to companies as capital bleeds off gradually from companies racking up high carbon or climate risk scores. Portfolio managers seldom call to let investor relations know their shares have been dumped.
The investment world needs a standard, recognizable carbon score that companies can understand and manage. While investors are working to optimize their portfolios, the real win from a global view will be when thousands of companies understand the how their carbon risk is calculated and start working to repair their scores by lowering emissions and creating more resilient businesses. Competition in the consumer credit world supports three different credit bureaus – TransUnion, Experian and Equifax – yet the meaning of the FICO score holds true universally and drives credit repair services to lower borrowing costs and access to credit. Just think what a broadly recognized carbon score could do to repair corporate and global climate risk.