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FD: Greener-thinking pension funds are drastically changing their portfolios

Published on: January 13 2023

Concerns about the climate are changing how pension funds invest, moving from passive investment to actively selecting the companies they invest in. The result: more than half of the companies disappear from their portfolios. The goal: a good pension as well as a liveable world.

Concerns about climate change are transforming the traditional asset management model used by pension funds | TinaFields on iStock

In brief

  • Pension funds’ climate policies are leading to a different asset management model.
  • Funds are moving from passive to active investing with a smaller portfolio.
    PME goes from 1,300 equity investments down to just over 400.
  • Concrete targets, timelines and an escalation ladder are the new motto.

A revolution is raging in pension land. ABP, the Dutch pension fund for civil servants, is holding its portfolio up to the light and thinks that half of its shares do not meet its climate targets. And PME, the pension fund for the metals and technology industry, quietly sold its shares in the oil and gas industry and is finalising its new investment policy.

PME board member Eric Uijen expects that of the 1,300 companies the fund invests in, two-thirds will not survive the climate test. With its willingness to sell shares, pension fund Zorg en Welzijn is also formulating so-called concrete targets that companies must meet, including a timeline and escalation ladder.

As a result, years of commitment, jargon for holding discussions to influence company policy, is giving way to a willingness to sell if a company does not make sufficient progress on sustainability. But it does not stop there, explains PME’s responsible investment strategist Daan Spaargaren. “The turn we are making as pension investors touches on the fundamentals of asset management as it has been interpreted over the past decades. That’s hugely exciting.”

Research is expensive

For decades, pension funds opted for the most diversified equity portfolio possible, by country and sector. In recent years, passive investing became more and more the norm: following an index, or basket of shares. The mandate was limited to achieving a good return for the pensioners of today and the future.

Now that the goal of a liveable world is also taken into account, pension funds are deliberately selecting which companies to invest in. This results in a much smaller equity portfolio, with companies that are much more actively monitored. PME’s board is now at the point “where we no longer just exclude and sell companies, but say: what do we want to invest in”.

“If you want to actively select for climate policy, that requires expertise”

Mathijs van Dijk, professor of financial markets

It is an inevitable consequence of such choice to focus on issues such as climate, environment and working conditions in addition to returns, says Rotterdam professor of financial markets Mathijs van Dijk. “If you want to actively select based on climate policy and enter into a dialogue with companies about it, that requires expertise. But research is expensive and so you will be able to follow fewer companies.”

Not everyone follows this Dutch approach. Norwegian oil sovereign wealth fund NBIM, for instance, a huge investor with €1.2 trillion in assets, thinks that getting out of fossil fuels will not solve anything. On the contrary, you miss the opportunity to influence a company and you run the risk that your shares will be bought by an investor who cares less about aspects such as climate or the environment, believes top executive Nicolai Tangen of the Norwegian oil fund. Japan’s government pension fund, also a major investor, also prefers engagement to exit.

A wry conclusion

However, the major Dutch pension funds are disappointed with the return on their conversations with companies. “Our engagement over the past decade has not been successful,” board chair Joanne Kellermann of Zorg en Welzijn noted late last year at investor club Eumedion’s annual symposium. ABP says it has achieved things, but not enough, and stepped out of Shell last year, among others. Metal fund PME noted back in 2021 that it “could no longer justify” certain investments to its supporters.

“The engagement tool is really under pressure,” argues PME’s Spaargaren. “We have made mistakes in the past: not setting our targets well enough, defining our timelines and stating in advance our willingness to exit companies if progress is insufficient.” That has since changed.

“The industry continues to invest in finding and extracting fossil fuels and has not changed its ways”

Eric Uijen, PME board member

PME sold all shares in primary coal production in 2018 and fossil fuel shares quietly followed in 2021. “We saw that they were not materially shifting their capital flows to achieve the energy transition. The industry continues to invest in finding and extracting fossil fuels and has not shifted. That is quite a wry conclusion when this has been urged from multiple investors for five years,” says Uijen.

Professor Van Dijk calls the effectiveness of engagement difficult to assess. While there are some studies that are quite positive, all in all, he says, the evidence is thin and a causal link is difficult to prove. Excluding a company or industry can be effective, especially if enough investors do so. “It puts pressure on the share price and executives never like that. And when ABP announced its exit from fossil in 2021, it was world news and was talked about in all boardrooms. An exit is a powerful signal, even to smaller pension funds,” the professor said.

Pressure from supporters

Dutch pension funds set the tone with climate policy, judges professor of corporate governance Jeroen Veldman of Nyenrode business school. This is not only due to pressure from the European Central Bank, which is alerting the sector to the risks of so-called stranded assets. These are investments that lose value unexpectedly or prematurely due to new climate and environmental regulations. Reports by experts on the macroeconomic impact of climate policies on business models are also constantly appearing.

Moreover, supporters are putting pressure on pension funds to change policies. This applies to ABP, but also to PME, for example, where 67% of participants supported leaving oil and gas, according to director Uijen. Dissatisfied parties are going to court to enforce climate plans. That threat also applies to pension trustees, according to Veldman. In 2021, over a hundred teachers and government employees wanted to start a case against ABP for its fossil investments.

And then there is politics. Finance Minister Sigrid Kaag (D66) wants the financial sector to take the lead in climate policy this year. And Brussels is stepping up to the plate with directives, especially on accountability and transparency. As a result, the pension world is now also taking steps.

Like being on the Titanic

For PME board member Uijen, it feels like a race against the climate clock. “When the Club of Rome issued its report 50 years ago, I read it, but I just carried on. Only in the last 10 years have I really worried about it and I am deeply ashamed of that. But perhaps it is peculiar to humanity that we take action a few minutes before midnight. It feels like we are on a beautiful ship like the Titanic, and you know how that ended.”

In several world cities, including Amsterdam, there is a climate clock. Not one that counts down to the next year, but a climate counter that counts to 2030. “That stands at six years and a few more days and then we will have reached one and a half degrees of warming worldwide,” Uijen says. It encourages him and his colleagues in their mission to shift the pension fund’s investment flow to renewable energy companies.

This article originally appeared in Dutch business newspaper FD, on 12 October 2023