The climate threat to pension investments

The growing threat of climate change is not merely an environmental issue; it’s a financial concern that directly impacts the pension funds we manage. New research is uncovering just how unprepared the pension sector is for the myriad of risks posed by the climate crisis.

Underestimation of climate risks in transition plans

According to recent research from the Economics of Energy Innovation and System Transition (EEIST) project, the plans of financial institutions, central banks, regulators and governments to transition pension funds to a net-zero future are severely underestimating the array of risks posed by the climate crisis. Research author and economist Prof. Steve Keen points out that the existing net-zero transition models overlook various critical “tipping points” that could lead to drastic climate and ecological collapse.

The underestimation reveals a failure to account for different “decision-useful” climate scenarios that should be central to responsible pension fund management.

“Global warming is not a minor cost-benefit problem that will mainly affect future generations, as the economic literature asserts, but a potentially existential threat to the economy, on a timescale that could occur within the lifespan of pensioners alive today,” he states. “We are talking about the financial futures of millions of people.”

The need for a comprehensive approach

The report emphasises that pension funds must assess all potential future impacts that climate policies or market fluctuations might inflict, even if a specific monetary value cannot be assigned at present. Current models and frameworks used by pension funds often exclude physical and transition risks related to climate change, concentrating solely on financial consequences.

The recommendation is clear: follow the EEIST’s Ten Principles for Policy Making in the Energy Transition. Pension funds must adopt “decision-useful climate scenarios,” incorporating real-world scientific developments and narratives. Such an approach will fortify transition plans and allow for flexibility as scenarios evolve.

The persistent problem of flawed research

The EEIST findings are part of a growing chorus of voices alerting the pension sector to its reliance on incomplete data and modelling in devising transition strategies.

Just last month, research from Carbon Tracker revealed that a common dependence on “flawed research” is causing investment decisions to overlook climate change’s economic and physical ramifications.

The study ‘Loading the DICE against pension funds’ discovered that some pension funds’ investment models are making predictions that global warming of 2C to 4.3C would have insignificant effects on GDP and portfolios. Alarmingly, some models even assert that a 7C increase in average temperatures would not hinder economic growth. Carbon Tracker contends that these assumptions are dangerously misguided.

Tony Burdon, CEO of Make My Money Matter said: “This report shows that the climate models used by our pension funds are not only implausible – they’re dangerous too. This so-called ‘expert advice’ is underpinning the investments of millions of UK savers, yet is jeopardising both our pensions and the planet. When temperatures on Earth last rose 5 degrees, 95% of living species were wiped out, and sea levels rose 20 meters. Yet these models suggest the impacts of such temperature rises on GDP – and our pensions – will be minimal. These predictions are flawed, complacent and dangerous. Pension funds have a fiduciary duty to urgently act on this report, and take immediate steps to protect both our pensions, and the planet.”

Fossil fuel investments in the UK

To put the matter in concrete terms, UK-based pension schemes currently have over £88bn invested in fossil fuel companies. That’s a staggering £3,096 per pension policyholder, according to an analysis by Make My Money Matter (MMMM), which studied the fossil fuel investments of more than 50 of the country’s most prominent pension schemes.

Over 50% of the pension schemes examined by MMMM count both Shell and BP among their leading holdings. Shell recently altered its trajectory on reducing fossil fuel production, with new CEO Wael Sawan framing the decision as a requisite move to enhance shareholder value. Concurrently, BP expressed a change in its own commitments. The company announced that it’s unlikely to fulfill a prior pledge to cut oil and gas production by 40% by the year 2030, using 2020 as the baseline. Citing higher-than-anticipated short-term demand for oil and gas, BP justified this change, arguing that the increased revenue from fossil fuels could actively “support investment” in transitioning toward more sustainable energy sources.

The evidence is compelling and the stakes are high. It’s vital that when talking about climate risks we look beyond theoretical projections; they’re real and present dangers that demand a holistic and adaptable approach.

Whether it’s re-evaluating investment models, incorporating a wider range of climate scenarios, or reassessing fossil fuel investments, proactive and informed actions are needed now more than ever.

The integrity of our pension funds, the well-being of millions of retirees, and the responsible stewardship of our planet all depend on our ability to respond to these warnings with diligence and foresight.

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