Climate change: how we engage on adaptation

Last week, we summarised the key findings from the recently released IPCC report ‘Climate Change 2022: Impacts, Adaptation and Vulnerability’. The report examines the impacts of climate change on nature and people around the globe, and offers options to strengthen resilience to ongoing climate change. It provides yet further impetus to double down on efforts to achieve the Paris goals, as the scale of the consequences from overshooting them is stark.

What investors can do to support climate adaptation

However, taking action to reduce greenhouse gas emissions (known as climate mitigation) must be met with equal action and investment to adapt to a warming world, reducing our exposure and vulnerability to climate change. It is not just people’s lives and livelihoods that are vulnerable, but important physical assets too: property and critical infrastructure such as energy and transportation systems. Current financial flows to adaptation remain insufficient for the scale of the challenge.

As stewards of our clients’ assets, we have long asked investee companies to assess not only transition risks, but also how they and their supply chains stand to be affected by the physical impacts from climate change. We hold companies to account on both disclosure and action, while also analysing climate risks in our own portfolios.

LGIM’s Destination@Risk toolkit allows us to quantify the impacts of chronic physical risk from changes in labour productivity on our asset valuations. We have also sent a clear message to the wider market, joining 50 other investors in setting out expectations of companies with regards to addressing physical climate risks. By acting on these risks, we believe investors can help encourage the climate resilience of portfolio companies, as well as channel investment towards adaptation solutions.

As a direct investor and owner in real estate and infrastructure, the physical impacts of climate change are also expected to pose an increasing risk to our Real Assets portfolio. To increase the resilience of the assets in this portfolio, we have enhanced our approach to assessing potential impacts and embedded this into our investment decision-making process.

For example, as flood risk poses a current and future threat to our UK-based real estate portfolio, granular forward-looking flood risk analysis is carried out annually for all assets. Our parent company L&G*, which puts its own capital into urban regeneration and new commercial and residential housing, also plans to integrate more rigorous consideration of physical climate risk within development and design decisions.

Why investors must act on nature

As well as the direct impacts on the economy, societies and people’s health, climate change negatively affects many of the world’s species and ecosystems, driving biodiversity loss. At the same time, safeguarding and restoring nature is fundamental to both climate-resilient development and mitigating climate change. It is this interdependency between the climate, people and nature which stands out as another core message from the IPCC report.

While the economic impacts of climate inaction have been broadly documented, a lesser emphasised figure is the 50% or more of global GDP which is dependent on nature.[1] Many industries have significant ‘hidden dependencies’ on nature within their supply chain and may be more at risk than is currently understood.[2] Not addressing these dependencies and limitations could pose a risk to our investments.

This is why LGIM has committed to address the issue of biodiversity loss through our stewardship and investment activities, and why – building on work already undertaken on agriculture, land use and forestry – we joined over 30 financial institutions at COP26 in embracing the challenge to eliminate commodity-driven deforestation from our investment portfolios.

As the IPCC argued, the window for action on climate change is ‘brief and rapidly closing’. This is why we continue to take action on this vital issue on our clients’ behalf.

[1] https://www.un.org/en/desa/countries-consider-ground-breaking-change-economic-reporting-includes-natural-capital

[2] https://www3.weforum.org/docs/WEF_New_Nature_Economy_Report_2020.pdf

*For illustrative purposes only. Reference to a particular security is on a historical basis and does not mean that the security is currently held or will be held within an LGIM portfolio. The above information does not constitute a recommendation to buy or sell any security.