How the Paris Agreement is reshaping equity investing
Overview
Investors are faced with identifying which companies across industries are best positioned for a new economy shaped by the goals set forth in the Paris Agreement. In this paper, we explore building a Paris-aligned equity strategy as part of a broader multi-asset portfolio and the impact on potential alpha generation from incorporating sustainable insights.
What to expect
A capital shift is underway
Asset owners and managers may need to facilitate a reallocation of capital towards technologies, companies or countries that are fundamental in this climate transition.
The link to alpha generation
Increasingly, companies that meet the ambitious goals set out in the Paris Agreement can benefit from improvements in profitability, productivity, and alpha potential.
A systematic approach to climate and portfolio goals
Using a model built for the continuous reduction of carbon emissions alongside deep firm-level analysis results in a Paris-aligned portfolio with differentiated returns.
Climate-aware alpha drivers
Companies meeting the ambitions set out in the Paris Agreement are increasingly benefiting from higher demand and increased firm value. Climate-aware alphas including carbon resource efficiency, green patents, and corporate target setting are linked to quality measures such as productivity and profitability. Take carbon emissions as an example – firm-level data demonstrates that companies with lower carbon intensity exhibit higher excess returns on average. These companies tend to have a lower cost of capital, higher productivity, and increased efficiency making them better positioned for alpha generation.
A critical step to net zero: Decarbonization
Along with analyzing carbon emissions data at the company level, incorporating carbon reduction targets at the portfolio level can enhance climate outcomes and adds to portfolio returns. Using a minimum requirement of 50% relative carbon reduction vs. the benchmark along with a 7% per annum decarbonization rate allows investors to achieve a true Paris-aligned portfolio forging a path of continued reduction in carbon emissions.
Decarbonization path of a portfolio
BlackRock, as of February 2024. The graph shows an illustrative decarbonization path of a Paris-aligned portfolio. These are examples of guidelines that can be applied and should not be relied upon as research, investment advice, or a recommendation regarding any products, strategies, or any security in particular. This is for illustrative and informational purposes and is subject to change.
Capitalizing on the climate transition
Limiting climate change to well below 2ºC and reaching carbon neutrality by 2050 are sizable goals that are required in order to avoid the potentially devastating impact of climate change. The reallocation of capital towards technologies, companies and countries fundamental for the energy transition calls for an evolved approach to building equity portfolios. In our view, a Paris-aligned framework considering sustainability alongside traditional risk and return objectives is crucial for capitalizing on the economic shift taking place.
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