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Empowering investors with an open-source environmental metric

05/09/2019

Empowering investors with a powerful open-source environmental metric to guide their investment decisions and measure their impacts.

A pressing context

Over the last decade, the growing number of public commitments within the financial sphere to monitor and reduce the environmental impacts of their investments, and the development of environmentally-themed disclosure and investment products, have demonstrated the financial sphere’s willingness to embrace its role in the ongoing environmental transition. Cumulating pieces of soft and hard law are striving for ESG disclosure and environmental risk integration, such as French Article 1731, the Paris Agreement resulting from COP21, the TCFD recommendations2 or the European Commission’s Action Plan on Sustainable Finance.

Meanwhile, retail investors aspire to more environmentfriendly products, green labels are entering the financial industry and NGOs are pointing out more environmental scandals and greenwashing attempts. As a result, the need to professionally qualify investments as green and brown has never been so acute.

In this context, the NEC Initiative, where NEC stands for Net Environmental Contribution, aims to provide a powerful, robust and comprehensive metric to investors to guide their investment decisions and measure their impacts. The metric has been designed to be used by any type of financial player at product, company, portfolio and index levels. In early 2019, the cofounders of the Initiative, – Quantis, a leading environmentally sustainable solutions provider, I Care&Consult, an entrepreneurial consultancy dedicated to the environmental transition, and Sycomore AM, a leading SRI asset manager – signed a collaborative agreement. Sycomore AM was the NEC IP-holder and is now committed to bringing the full brand and intellectual property to the Initiative. I Care&Consult gathered the first experts who worked on the methodology as early as 2015. Quantis joined the development team in 2016, bringing its extensive experience of collaborative R&D work and precompetitive platforms: Quantis has been mandated to manage the Initiative. Novethic has already agreed to join, and much other interest has been expressed3.

A 4-year R&D background

The indicators available to investors are generally not fully transparent or, like portfolio carbon footprinting, show limited value for decision making. In this deceptive context, the NEC was initiated to provide an aggregated view of issuers’ alignment (“net contribution”) with the environmental transition, encompassing their entire value chains, and going “beyond carbon” within Sycomore Eco Solutions, a listed equity fund launched in 2015. In 2017, the NEC was tested and deployed over Sycomore AM’s €7 bn of AuM and its benchmark indexes. In 2019, it covers more than 1,300 equity and fixed income securities, is used by several clients of I Care&Consult and by Sycomore AM in monthly reporting and in Article 173 regulatory disclosures4.

The NEC metric aims to assess the extent to which issuers are aligned, or misaligned, with the ongoing environmental transition. Based on physical units, it considers various environmental issues such as climate change, water, air quality, biodiversity and waste generation. The NEC adopts a “lifecycle” approach by looking at these impacts across value chains. The outcome is a single figure per issuer, based on its different underlying activities, which ranges from -100% to +100% and can be applied to all industries and funding types, as illustrated below.

An open model

Considering the environmental emergencies, the choice of going open source was based on three beliefs:

  • a market standard can only emerge through transparency
    and comparability,

  • cooperative work allows a quicker and broader impact,

  • an open structure enhances robustness and impartiality.

The NEC Initiative’s missions are hence to provide a robust and transparent methodology and metric, raise awareness and disseminate environmental knowledge within financial markets, as well as promote collaboration between stakeholders involved in responsible investment. It is open to all stakeholders operating in the financial sector (asset owners, asset managers, investors, lenders, financial service providers, etc.) or interacting with the financial sector (issuers, academics, NGO, professional organisations, consultancies, institutions, etc.).

The Initiative will broadcast, challenge, expand and periodically update the methodology, as well as ensure its applicability and its comparability with other emerging standards such as the UN SDGs (Sustainable Development Goals), the tentative 2°C alignment methods or green taxonomies. To support this collective effort, the main funding comes from membership fees – Partners and Members – giving access to the right to publicly use the NEC. It will be completed by Sponsors, providing grants or nonfinancial contributions. Finally, the general public and all members will benefit from the Initiative website. Therefore, four types of stakeholders encompass the targeted NEC community:

  • Partners steer the Initiative and bring the greatest financial support. As expert users, they gain and provide expertise and benefit from all training sessions and from full access to the whole toolset;

  • Members are basic NEC users for a moderate fee. They have access to training kits and communication guidelines to comply with;

  • Sponsors bring complementary funding, R&D work or dissemination help;

  • The general public gains free access to the NEC methodology, data sources and tutorials.

NEC and financial performance

A key question remains: what does the NEC tell us about financial performance? Recently, a study5 tried to answer this question through the analysis of the STOXX 600 over the 2013-2018 period6. It showed that:

  • Similar patterns between the NEC and stock performance emerge over a 3 and 5-year period (not over 1-year), the strategy with the best NEC (+25%) achieving the highest return and risk-adjusted return;

  • The NEC selection effect is not significantly biased either by market capitalisation or by sector allocation;

  • The NEC metric gives results completely different from existing environmental ratings.

Even if this study needs to be completed, the transition risk measured by the NEC metric appears to impact stock return, and these first results strengthen our belief that the NEC is worth being further improved and rolled out.

 

JEAN GUILLAUME PELADAN 
Head of Environmental Strategy – Sycomore AM

Jean-Guillaume spent 16 years working at the Boston Consulting Group and at Suez before joining the French Environment and Energy Management Agency in 2010, as Director of Investments for the Future. In 2015, he joined Sycomore AM as Head of the Environmental Strategy and launched Sycomore Eco Solutions. A graduate of Ecole Polytechnique and Ecole des Mines ParisTech, an environmental expert, lecturer and writer, Jean-Guillaume has been involved in several NGOs, such as the French Sustainable Investment Forum.

 

(1) Article 173 of the Energy Transition for Green Growth law that came into effect in 2015. (2) Taskforce for Climate-related Financial Disclosure from the Financial Stability Board on request of the G20, 2017 final report. (3) The NEC Initiative contact is Vanessa Pasquet, vanessa.pasquet@quantis-intl.com. Full access to the due diligence package is granted directly after signing a Confidential Disclosure Agreement. (4) Our Magazine - Sycomore Asset Management - 05 November 2018 - https://en.sycomore-am.com/Our-Magazine/2018/11/583-Net-Environmental-Contribution-Sycomore-AM-and-partners-open-source-newmulti-issue-environmental-metric-for-finance-industry (5) “Is the transition risk material? Testing the Net Environmental Contribution metric on a universe of listed European equities” submitted and presented by Sycomore AM and BNP Paribas Securities Services to the 12th International Financial Risk Forum, organised by the Institut Louis Bachelier in Paris on March the 18-19th, 2019. (6) NEC version β calculated by Sycomore AM, I Care&Consult and Quantis, mainly with 2016 data, the proxy STOXX 600’s NEC being -2%.

 

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