Just as druids long ago shaped the past by muttering strange imprecations as they did whatever they did within their stone circles and sacred groves, so today's financial wizards shape both the present and the future through the often unintelligible pronouncements they make as they do whatever they do within their Wall Street temples and glistening towers in London, Frankfurt or Tokyo. But every so often they say something that speaks clearly about future risks and opportunities – and that's something Mercer have just done, with support from the International Finance Corporation and the Carbon Trust.
The message is heavily cloaked in statistics, but strikes me as alarming and exciting in more or less equal measure. A key conclusion is that most of the pension funds in which we invest, directly or indirectly, operate on an old, increasingly dangerous logic. In their new report, Climate Change Scenarios: Implications for Strategic Asset Allocation, Mercer conclude that even many long-term investors are still blind or myopic when it comes to climate risk and opportunity. This is worrying at a time when the economic cost of likely future climate policy to the market is estimated as likely to reach as much as $8trillion (£5tn) cumulatively by 2030.
On the opportunity side, global investment in climate-friendly technology could add up to $4tn over the same time-scale, which is expected to be beneficial for many institutional portfolios, as long as they are designed in the right way. And, more good news, the EU and China are seen as particularly well placed to lead the climate-driven economic transition.
But what might this mean for the average pension fund? The first thing to say is that it could contribute up to 10% of portfolio risk for the average fund over the next 20 years. In poorly managed funds, clearly, the negative impact could be much greater. On the question of how climate risks are best managed, Mercer argue that the risks will need to be hedged by investment, paradoxically, in climate-sensitive assets. These would include renewable resources, timber land and agricultural land. The calculus is complex, but persuasive. funds aiming to produce a nominal return of 7% would need to invest up to 40% of their total portfolio in climate-sensitive assets.
A bit like chieftains confronted by the druids of yesteryear, I suspect many pension fund CEOs will be scratching their heads over what to do next, but the meaning in the statistical runes is pretty clear. If they fail to act, and act effectively, they will be in dereliction of their fiduciary duties.
Perhaps counterintuitively, they have a vested interest in tougher climate policy, sooner. Continued delays in effective climate change policy action and the conspicuous lack of international coordination could cost institutional investors trillions of dollars over the coming decades. Hopefully that's a message now being digested and absorbed by the participating group of leading global investors who represent around $2tn in assets under management. If that isn't the case, whether we are modern chieftains or lesser mortals, it looks like we now have yet another reason to rethink the security and adequacy of our pensions.
John Elkington is Executive Chairman of Volans, co-founder of SustainAbility, blogs at Johnelkington.com, tweets at @volandia and is a member of the Guardian's Sustainable Business Advisory Panel
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