Carbon Footprint: No One Can Achieve The Impossible

BNP Paribas Investment Partners (BNPP IP) has published the carbon footprint of its 95 open-ended equity funds after having done this for 26 of its funds last year.

Article 173 of the Green Growth Energy Transition Act, passed on 17 August 2015 in France, stipulates that as of 2017 investors must publish a “measurement of greenhouse gas emissions associated with the assets they hold.” The law also requires an evaluation of the exposure of investment portfolios to climate risk and the definition of a low-carbon strategy. This article illustrates the method that BNPP IP has adopted for carbon footprint measurement, so as to clarify the issues and constraints related to this process after the publication of the carbon footprint of our portfolios for the second year in a row. It only addresses the carbon footprint, as the other aspects are covered in the BNPP IP climate change policy outlined in the last SRI newsletter.1

BNPP IP began measuring and publishing the carbon footprint associated with its SRI
(Sustainable and Responsible Investment) range in 2011. The company also signed the Montreal Carbon Pledge2 in 2015, which commits it to gradually measuring and publishing the carbon footprint of all its portfolios. This work was completed for 26 of its open-ended equity funds in November 2015. One year later, in November 2016, almost 100 portfolios are now covered by these efforts.

What do we mean by carbon footprint?

A company’s carbon footprint represents the greenhouse gas emissions it generates. The Greenhouse Gas Protocol (GHG Protocol)3 defines measurement standards for the six major greenhouse gases: carbon dioxide (CO2), methane (CH4), nitrous oxide (N2O), halocarbons (HFC and PFC) and sulphur hexafluorides (SF6). These emissions are measured in CO2 equivalent (CO2e), i.e. in terms of global warming potential using CO2 as a basis for comparison. Because methane has a global warming power of 100 years that is 21 times higher than for CO2 4, one ton of methane is equivalent to 21 tons of CO2e. Emissions are divided into three categories known as “scopes”. Scope 1 comprises companies’ direct emissions of greenhouse gases. Scope 2 covers emissions related to electricity consumption, and Scope 3 includes all other indirect emissions. Scope 1 and 2 carbon emissions are marginal for asset administrators. Their business does not include industrial processes that emit greenhouse gases, and their consumption of electricity is limited. An asset administrator’s primary climate impact lies in its indirect contribution to climate change via its investments in companies that emit GHGs or are large consumers of electricity. This is why transparency expectations around climate impacts in our sector are focused on the carbon footprint of asset portfolios.

Unfortunately, there is currently no unanimously accepted method for calculating a portfolio’s carbon footprint. The various calculation methods that do exist tend to focus on Scope 1 and 2 emissions; calculation of Scope 3 emissions is not viewed as sufficiently robust or uniform to be applied. There is also a desire to move towards a calculation of intensity, i.e. to measure companies’ emissions as a ratio to a common unit such as revenue, market capitalisation or total balance sheet. The asset classes covered and the final format also vary. Such diversity of methods is not inherently problematic. It is even desirable to the extent that it pushes players to position themselves on this issue, which fosters research and has educational value. Problems can arise, however, when the results of these reports are taken into account without considering the diversity of methods used or the meaning of the figure being measured. All the methods have limitations that are important to point out.

Improvements needed

Eighty percent of direct and indirect GHG emissions for a generalist index such as MSCI Europe are derived from three areas: electricity generation, fossil fuel production and cement production. A portfolio’s carbon footprint will depend above all on its exposure to these sectors.

By design and due to the lack of available data, carbon measurements are limited to direct
emissions and those related to the consumption of electricity. They generally pass over
emissions related to purchasing, induced third-party emissions and emissions avoided through the use of products sold by the companies. Thus, a firm that has outsourced its industrial production, but sells products with a negative impact on the climate, would contribute to reducing a portfolio’s carbon footprint.

Lastly, the carbon footprint does not express exposure to climate risk or carbon risk, i.e. a risk caused by the effects of climate change or by fighting against climate change. A company that has no or few GHG emissions, but whose business depends solely on carbon extraction, is strongly exposed to a carbon risk, and the carbon footprint does not express or measure this risk.

Our calculation methodology

BNPP IP decided to develop its own methodology for measuring the carbon footprint of its
portfolios. At the same time, it has developed a tool that allows managers to monitor the
carbon footprint of their portfolios. Scope 1 and 2 emissions are added together, and this
sum is divided by the market capitalisation of each of the securities present in the portfolio.
The result is weighted in line with the weight of the security in the portfolio, to calculate
an intensity per euro of market capitalisation. The intensities of the different securities in
the portfolios are then added together. We thus obtain a measurement of direct carbon
emissions and those related to the consumption of electricity associated with investment in
the portfolio. BNPP IP’s approach, like all current carbon footprint measurement methods,
contains inherent biases. The footprint is strongly correlated to changes in securities’ market prices. Monitoring the carbon footprint over time is meaningless due to its volatility. While it only takes into account Scope 1 and 2 emissions, and passes over induced third-party emissions and those prevented by products sold by the companies, it does provide useful information. Measuring portfolios’ carbon footprint helps to raise awareness and educate fund managers. It improves understanding of the impact of sectoral allocations and of selecting securities based on their associated carbon emissions.

Beyond metrics

Measuring the carbon footprint is an exercise with educational value, but must never be viewed as an instrument for managing carbon risk. It is a crucial first step, but not enough to meet the expectations of our customers, nor the provisions of Article 173. Other jurisdictions are likely to have similar requirements in future. That is the current direction being taken by the Financial Stability Board (FSB) on climate-related financial disclosures (TCFD).5 Consideration of climate risk cannot be limited to measuring the carbon footprint. That is why, for our SRI funds, we place a strong and systematic focus on climate topics in the analysis of the ESG performance of the companies in which we invest. This analysis goes beyond the footprint. As part of our 2°C strategy, our aim is to strengthen the pertinence of this analysis and to extend it to other management areas.