Groupe BPCE has chosen to make climate change one of the major thrusts of its 2024 strategic plan. In the second episode of our series devoted to this question, two of our experts share their analysis of the green taxonomy and the regulations incorporating ESG criteria, along with their vision of how to support companies as they navigate their environmental transition.
Interview with Cédric Merle, Head of the Center of Expertise & Innovation within the Green & Sustainable Hub at Natixis Corporate & Investment Banking
Do we need to oversee green financing more strictly?
The climate emergency requires to be adamant in the face of greenwashing practices. Some of these practices are obvious if not caricatural (ex: “a carbon-neutral airport”) while others are more subtle. What might yesterday have appeared “acceptable” can be seen tomorrow as “insufficient”. Finance is not immune to greenwashing, which is a threat to markets integrity and undermines the credibility of all initiatives, including the most ambitious and sincere ones. The multiplication of green finance regulations, particularly taxonomies, illustrates the determination of public authorities to forestall greenwashing.
What is the state of progress of the green taxonomy within the European Union?
The European taxonomy came into force in July 2020, but its principles and implementing acts have not entirely been defined yet. Nevertheless, companies and investors are shortly expected to report information on their degree of “compliance” with specified criteria. In addition, the European Union is considering extending the taxonomy to embrace social or transition objectives; it should make a decision in the next few months. Current affairs, notably the Ukrainian war and the ensuing European willingness to curb reliance on Russian gas, will certainly force the European Union to reassess certain criteria. Gas criteria proposed by the Commission in January were already highly contested and will probably need to be revised in the wake of recent events.
What are the limitations of these regulations?
One of the main shortcomings of the European taxonomy lies in its binary nature. It indeed identifies so-called “transition” activities but most companies operating in emitting sectors, in practice the bulk of the economy, display performances below the levels required by the taxonomy. Nevertheless, the taxonomy does not distinguish nor encourage companies or activities that are “almost there” or are making rapid progress from those for which thresholds are out of reach.
The Commission has tried to propose a more “context-based” and “dynamic” approach on gas. Unfortunately, the overlapping of seemingly strict criteria, like the requirement to replace coal-fired power plants, and above all, the absence of clear verification procedures, could make it largely ineffective. The more nuances and criteria are introduced, the more the process turns complicated with subsequent risks of misunderstanding and legal insecurity.
In order to remain relevant, taxonomies must be regularly updated to factor in the most recent scientific findings and to adjust the stringency of criteria in accordance with the decarbonation pace of our economies.
What are the major challenges for businesses and their customers in terms of environmental transition?
The first challenge concerns sectors that are deemed “incompatible” with the achievement of a 1.5 or 2°C scenario. Certain activities are easier to replace due to econonomic or technological features (ex: substitutability), but also social or cultural preferences. Such activities must undergo radical transformation, shrink or even disappear. The inherent challenge of “greening” economies involves ensuring that the most vulnerable populations do not bear a disproportionate burden of the ecological transition. The transition must be “fair” to be socially acceptable and come to fruition. Efforts must be made to avoid, reduce or compensate adverse social impacts stemming from it, particularly in terms of employment, access to mobility or heating.
How do you support public banks in their alignment with the Sustainable Development Goals?
The 2030 Agenda, which was adopted in 2015 alongside the Paris Agreement, sets out 17 Sustainable Development Goals (SDG) to achieve by 2030. Natixis Green & Sustainable Hub tackled this subject early, owing to its potential, but also the guidance needs to ensure its non-superficial appropriation by the financial industry. We published a first report in 2017 (“SDG Rubik’s Cube”) which laid foundations and suggested a methodological approach. As advisor on sustainable structuring and as joint bookrunner, Natixis Corporate & Investment Banking has then successively accompanied the governments of Mexico and the Republic of Benin, as well as AFD Group in their SDG bond issues, This know how and these previous credentials have convinced the International Development Finance Club (IDFC), a group of 27 public development banks, to entrust Natixis Green & Sustainable Hub with the task of designing a methodological framework and elaborating principles for aligning their activities with the SDG.
A final word?
The transition of our economies is an endeavor that requires plenty of agility. We need to sustain the speed of a 100-meter sprint over the distance of a marathon! Efforts to decarbonize the economy will extend well beyond the deadlines of 2030 and 2050. Short-termism and procrastination are not an option, and neither can we afford to overlook social problems on the altar of climate emergency. The financial industry shall prod a capital reallocation at an unprecedented scale and pace in order to limit global warming, preserve biodiversity and narrow social inequalities.
Cédric Merle has published a report with his team presenting the state of taxonomy projects in more than 20 countries worldwide: The New Geography of Taxonomies. Click here to read more
Interview with Nathalie Wallace, Global Head of Sustainable Investment at Natixis Investment Managers
Why are investors and corporations taking an increasing interest in ESG matters?
There are many factors unsettling the world economy: the impact of the 2008-2009 financial crisis on the neediest, the extensive transformations of the energy sources needed to power our economies, the societal dislocation caused by the pandemic and the visible impact of climate change on the most vulnerable populations, the latter entailing massive population movements, for example. These factors are destabilizing our democracies, the global economy and ultimately financial markets. The global financial industry finds itself operating in a situation of macro-economic disruption, transformations linked to innovation, new demands on the part of savers and regulatory bodies, as well as restructuring of the real economy. In light of the observations made in the IPCC’s latest report and widening inequalities – highlighted by the recent movie “Don’t Look Up” - it is now clear to investors that it is essential for them to factor in environmental and social considerations when making investment decisions, in order to better understand the risks to which the securities in their portfolios are exposed. In this way, they align themselves with their fiduciary duty toward their clients.
In addition to recognizing these risks, another motivation is to select and support companies that are committed to fostering sustainable and inclusive economic development for the planet and its inhabitants. As change makers rather than change takers, these companies are consequently in pole position to reap the benefit of long-term trends. To attain the goals of the Paris Agreement and the sustainable development objectives sketched out by the United Nations, these kinds of investments, which were still marginal 10 years ago, need to be democratized.
[Movie released by Netflix in 2021 narrating the experience of two unknown astronomers who embark on a media tour to warn humanity of a comet that is about to destroy Earth.]
What obstacles are your clients faced with when adopting ESG criteria?
The first fundamental problem is that listed and private companies do not publish enough standardized and audited data to enable investors to analyze and compare their positive or negative contribution to the environment and to the communities in which they operate and throughout the life cycle of the products or services they offer, or the risks to which they are exposed. This is where a common regulated accounting approach is required for investors. Concerning climate transition, for example, investors need audited data and common standards on the following aspects among others:
- Calculation of scope 1, 2 and 3 emissions;
- The different costs of emissions depending on where activities are located;
- A taxonomy to enable investors to identify, analyze and compare economic activities that contribute to energy transition;
- The publication of the physical risks to which a company is exposed and its strategy for adapting to climate change;
- The use of carbon-emission offsetting, strictly related to the deployment of the range of carbon sequestering solutions.
The second problem is linked to the pre-existing regulatory void, which has been a boon for data suppliers who have developed offerings in response to demand from more or less informed investors. The wariest investors, for example use a rating calculated from a methodology that is more or less opaque and which ultimately does not mean much, a state of affairs that Bloomberg, the Financial Times and the Wall Street Journal have highlighted and taken in hand in recent months. In most cases, these ESG ratings cannot be used to analyze the impact of companies’ activities on their environment and society. They can in no way be used to develop financial products with sustainable and impact objectives, and even less to allocate capital for the purpose of attaining carbon neutrality goals.
This is the level at which European regulation as a whole intervenes, with the green taxonomy including social and environmental regulations set to provide transparency as well as a means to control greenwashing and to ensure capital and corporate strategies are aligned with the objectives of low-carbon economic development.
How do asset managers take ESG regulation and criteria into account?
A company’s performance is greatly improved by the investments it makes in its employees, customers and communities, and in the environment. Over a medium-term investment cycle, Main Street’s and Wall Street’s interests end up converging. In our active management multi-boutique model, our strength lies in conducting in-depth analysis of a project or a company’s fundamentals and then using this analysis to take positions based on our convictions over investment horizons of several years. Our portfolio managers identify, select and sometimes create frameworks for transforming the raw information into decisions that align with their investment philosophy and enable them to make investments that attain their responsible, sustainable or impact objectives and their financial performance goals.
In addition, our role as engaged investors is to keep the companies included in our portfolio strategies and their management teams responsible for their actions and their impact on the environment, their employees and their communities, and throughout the value chain. Our portfolio managers work actively with companies to reinforce the investments their managements make with their stakeholders, in order to stimulate company performance and, in certain cases, augment their contribution to the real economy. There is no trade-off between investing long-term and keeping companies responsible for their actions.
What kinds of services, funds and investments respecting ESG criteria does Natixis Investment Managers offer to respond to these issues?
At Natixis Investment Managers, responsible, sustainable and impact investment is central to our strategic ambitions and we are targeting €600 billion of assets under management in this category by 2024, or 50% of our total AuM. Firstly, through dialog with our clients and thanks to ESG analysis and Climate Clarity tools, we are able to discern the ESG risks to which their asset portfolios are exposed. Next, the range of innovative strategies offered by our affiliates covers all the responsible, sustainable and impact objectives liable to interest clients across a large variety of asset classes. In terms of private assets, our clients can invest in natural capital, private equity, infrastructure, private credit or even social housing funds. Regarding listed strategies, our clients entrust our affiliates with close to €25 billion of assets invested in social, sustainable and green bonds. They can also invest in thematic funds that respect job creation objectives or which are more diversified and aligned with the SDG1 or the Paris Agreement.
What are the new perspectives for ESG in 2022?
2022 could prove to be the beginning of the end for the current ESG “alphabet soup”! Independently of the green taxonomy, governments around the world, including in the USA, are considering making it mandatory for companies to publish detailed climate data. Publicly-listed companies are facing increased pressure from investors to implement credible plans for attaining carbon neutrality. Throughout this journey, data will play a crucial role in ensuring that the scientific goals are obtained and that tangible measures are applied. Governments require detailed carbon-emission reduction policies and investment frameworks to enable the private sector to invest in full confidence. In the same vein, and for the first time, the International Energy Agency (IEA) published its Net Zero report in 2021 and explicitly detailed the tangible measures and actions needing to be applied to attain carbon neutrality by 2050 in order to restrict the rise in global temperatures to 1.5°C.
The list of these measures and actions is extensive: according to the IEA’s analysis, investments in new oil and gas fields and coal mines must cease by 2022 and all coal-fired power plants must shut in advanced economies by 2030. Between now and 2040, electricity production should be fully decarbonized with hydrogen production multiplied by five and progressively decarbonized to become 100% green hydrogen by the end of the period. In the transport and construction industries, 60% of cars sold worldwide must be electric by 2030 and 50% of buildings have to be renovated to become carbon neutral by 2040. These figures make the mind boggle, but also provide a clear scope for government policies and our investment decisions.
Although climate change is a priority on the global agenda, social considerations will probably be just as important in 2022 with the development of the EU’s new governance framework, which is set to place the emphasis on human rights. What the EU hopes to do is to apply a new framework to all member states that is liable to have sizable repercussions on global supply chains.
Click here to read episode 1: Explaining the European taxonomy
1The 17 Sustainable Development Goals (SDG) are defined by the United Nations to respond to global challenges between now and 2030, particularly those linked to poverty, inequality, the climate, environmental damage, prosperity, peace and justice. For more information click here.