Some frequently asked questions about the proposed updates to our investment-related documents.
Investment Strategy Statement
What is the purpose of the Investment Strategy Statement? (ISS)
The Investment Strategy Statement sets out the long-term investment strategy for Derbyshire Pension Fund (the Pension Fund/Fund) and describes the framework used by the Fund when making decisions about whether to buy, hold or sell an investment. It includes descriptions of the type of assets that the Fund invests in, including equities (for example shares); bonds (for example government and corporate debt); property; private equity and infrastructure assets.
What are the key proposed changes in the ISS?
A change in the Fund’s Strategic Asset Allocation Benchmark (SAAB) is proposed. The SAAB sets out the Fund’s target mix of investment assets. Following an improvement in the Pension Fund’s funding level (the Fund’s investment assets compared to its pension liabilities), a 5% reduction in the allocation to Growth Assets (for example equities) is proposed, with a corresponding 5% increase in the allocation to Income Assets, of which 3% relates to infrastructure.
In November 2020, the Fund’s regional equity allocations were streamlined, when the Fund’s North America, Europe and Asia Pacific Ex-Japan Equity allocations were consolidated and switched into Global Sustainable Equities. The Fund is now proposing to consolidate its regional equity allocations further, with the current regional equity allocations in respect of Japan and Emerging Markets switched into the Global Sustainable Equities allocation.
What are Global Sustainable Equities?
The Global Sustainable Equities allocation targets investments in global companies that are sustainable in financial, environmental, social and governance terms and, where appropriate, that provide solutions to sustainability challenges (for example rising income and wealth inequality, climate change, famine and healthcare inequalities).
Why has the Fund been moving from regional equity allocations to a more global approach?
Many companies now trade on a global basis and the level of financial and economic integration has increased. A global approach allows the investment manager to select the best investment opportunities, regardless of which stock market companies are listed on.
A continued separate equity allocation to the United Kingdom is proposed to provide exposure to the ‘home’ market, to offer sector diversification relative to the global equity market.
Why does the proposed ISS include both an Intermediate and Final SAAB?
The proposed changes between the current and final SAAB are significant and will result in some sizeable market transactions. It is, therefore, proposed that the changes are phased to allow the Fund to manage the transition risks (for example market timing, liquidity risk, product availability).
The Intermediate SAAB represents the mid-point between the current SAAB and the Final SAAB. The Intermediate SAAB is expected to come into effect at the beginning of 1 April 2024, with the Final SAAB expected to come into effect on 1 April 2025 at the latest.
Responsible Investment Framework
What is the purpose of the Responsible Investment Framework (RI Framework)?
The RI Framework sets out the Fund’s approach to responsible investment which includes the consideration of environmental, social and governance (ESG) factors alongside traditional financial factors when making investment decisions.
It also sets out the Fund’s approach to the stewardship of its investment assets including voting on shareholder resolutions and engaging with the companies it invests in (investee companies). Engagement is increasingly done in partnership with other investors which increases the effectiveness of discussions between investors and investee companies.
The RI Framework also demonstrates how the Fund will report to its stakeholders on its responsible investment activities.
What do ESG factors include?
ESG factors include environmental issues such as climate change and pollution; social issues including working conditions, health and safety and employee relations; and governance issues such as executive pay, board diversity and bribery and corruption.
What is difference between responsible investment and ethical investment?
Responsible investment is an approach to investment that aims to incorporate environmental, social and governance (ESG) considerations into investment decisions, alongside traditional financial considerations to better manage risk and generate sustainable, long term investment returns.
Ethical investment is different to responsible investment as it is an approach to selecting investments based on beliefs about what is morally right and wrong. For a pension fund, it is appropriate to take a responsible investment approach to investment rather than basing investment decisions on subjective moral judgements.
Responsible investment involves the consideration of ESG matters which are likely to affect the sustainability of companies’ business activities. It is compatible with the Fund’s trustee-like responsibility to scheme members, scheme employers and local taxpayers.
Why does the Fund favour engagement over divestment?
The Fund adopts a strategy of engagement with companies to influence behaviour and enhance value, rather than adopting a strategy of divesting from (selling) certain sectors/industries. Engagement allows the Fund to use its influence as an active investor, with other like-minded investors, to improve ESG practices in investee companies, influence that would be lost through a divestment approach.
Collaboration between like-minded investors has increased significantly over recent years with a particular focus on influencing companies which are adapting their business models to take into account climate change. The Fund recognises that change takes time, and as a long-term investor the Pension Fund takes a long-term approach to its stewardship activities.
With regard to fossil fuel stocks, the Fund adopts engagement over divestment for a number of reasons, including:
- Engagement gives the Fund, and by extension the Fund’s members and participating employers, a seat at the table.
- Engagement, particularly collaborative and co-ordinated engagement with other like-minded investors, has the potential to drive changes to companies’ business models and to shape transitions to a low carbon world.
- Divestment is a one-off action which has no effect on real world greenhouse gas emissions.
- Fossil fuels are expected to remain an important part of the energy mix for many decades to come and natural gas is considered to be a key transition asset. Furthermore, hydrocarbons are embedded in all types of products which are currently essential in people’s everyday lives, the transition to a low carbon economy cuts across multiple sectors and industries.
- Divestment risks putting fossil fuel investments into the hands of less accountable and less transparent investors with a different level of concern about the transition to a low carbon world.
- Investor engagement has encouraged investee companies to improve the quality of their climate-related disclosures and to commit to targets for reducing greenhouse gas emissions. The major oil and gas companies from the UK, the Netherlands, France, Italy, Spain and Norway have all now committed to achieving net zero greenhouse gas emissions by 2050.
- As a responsible long-term investor, the Fund is well placed to provide support to companies right across the economy during the energy transition, influencing corporate behaviour through engagement to achieve real world reductions in greenhouse gas emissions.
- The global energy transition requires the capital and expertise of the major oil and gas producers to support the development of clean energy solutions, the delivery of new renewable energy assets, and the development and installation of energy storage solutions.
- The producers of fossil fuel products are already major developers of renewable energy solutions with a growing share of capital expenditure being directed to low carbon solutions.
- Investors need to be engaged on the ESG impact of the new technologies/solutions to support the energy transition. For example, lithium batteries (geographical location, worker human rights, disposal after end of life, potential fire/safety risk).
- The Fund’s strategy of engagement over divestment is consistent with the vast majority of other LGPS pension funds.
- The Fund continues to invest in renewable energy assets, committing over £275m to renewable energy assets over the last 10 years. Like all investments, returns aren’t guaranteed, and these investments come with risks, including technology risk, geographical risk, pricing and subsidy risk, regulatory risk and political risk.
- Diversification is key to managing investments; excluding sectors and industries increases concentration and volatility risk.
- Supporting a Just Transition - action on climate change should take into account the need for an inclusive economy and sustainable development. This includes managing the community impacts of renewable energy projects and ensuring that ‘good’ financial performance isn’t masking poor employee health and safety standards or damaging local environmental impacts. It also includes consideration about the workers and communities in carbon-intensive sectors as the transition intensifies.
Climate Strategy
Why does the Fund have a Climate Strategy and what is its purpose?
Climate change, and the response of policymakers, regulators and companies to climate change, has the potential to materially impact the investment assets and the pension liabilities of the Fund. While the external focus has often been on specific sectors/industries, climate change has the potential to affect the whole of the Fund’s investment portfolio.
The Fund’s Climate Strategy sets out for stakeholders the Fund’s approach to addressing the risks and opportunities related to climate change and sets out clear climate-related targets. The Climate Strategy includes support for the ambitions of the Paris Agreement and the aim to achieve a portfolio of assets with net carbon emissions by 2050.
What is the Paris Agreement?
The Paris Agreement is a global agreement to substantially reduce global greenhouse gas emissions. The aim of this agreement is to limit the increase in the global temperature to well below 20C above pre-industrial levels, and to pursue efforts to limit this increase to 1.50C. It has been ratified by 196 parties (individual countries and also the European Union).
What are Scope 1, Scope 2 and Scope 3 greenhouse gas emissions?
Greenhouse gases include carbon dioxide, methane and nitrous oxide.
Scope 1 emissions are direct emissions by a company from its owned and controlled resources.
Scope 2 emissions are indirect emissions from the generation of purchased energy (energy purchased by a company from a utility provider).
Scope 3 emissions are all indirect emissions (not included in scope 2) that occur in the value chain of the reporting company, including both upstream and downstream emissions. In other words, emissions that are linked to the company’s operations. Scope 3 emissions can have a material impact on a company’s overall level of emissions, but the assessment and reporting of Scope 3 emissions remains an area of development for many companies.
As an illustrative example, Amazon assessed and published its Scope 3 emissions as part of its measurement of the company’s 2022 worldwide carbon footprint. Scope 3 emissions accounted for 77% of the company’s total emissions. This demonstrates the importance of considering the potential impact of climate change on the whole investment portfolio.
What climate-related targets did the Fund set in 2020 and how has the Fund performed relative to those targets?
The Fund’s first Climate Strategy was approved in 2020 and included two climate-related targets: 1) reduce the average weighted carbon intensity (scope 1 and 2) of the Fund’s listed equity portfolio by at least 30% relative to the weighted benchmark in 2020 by the end of 2025; and 2) invest at least 30% of the Fund portfolio in low carbon and sustainable investments by the end of 2025.
The Fund had made significant progress against the two targets by 31 March 2023, two years ahead of the target date. On 31 March 2023, the Fund’s listed equity portfolio was 47% more carbon efficient than the weighted benchmark in 2020 and the Fund had committed 30% of the Fund’s total investment portfolio to low carbon and sustainable investments.
What climate-related targets are included in the proposed 2023 Climate Strategy?
As a result of the progress reported relative to the Fund’s two climate-related targets on 31 March 2023, the Fund is proposing to increase the two targets. It is proposed that the first target in respect of the average weighted carbon intensity (Scope 1 and 2) of the Fund’s listed equity portfolio is increased from 30% to 60% relative to the weighted benchmark in 2020 by the end of 2030. It is also proposed that the target now also covers the Fund’s listed investment grade bond portfolio. It is proposed that the second target in respect of investment in low carbon and sustainable investments is increased from 30% to 45%, also by the end of 2030.
The Fund is also proposing to introduce an additional target to reduce the absolute financed emissions (Scope 1 and 2) of the Fund’s listed equity and investment grade bond portfolios by at least 60% relative to the Fund’s reported absolute financed emissions in 2020 for those portfolios by the end of 2030. Absolute financed emissions measure the absolute tons of CO² for which an investor is considered to be responsible. Unlike the weighted average carbon intensity metric, which measures how carbon efficient a business is for each $1m of revenue generated, the financed emissions metric is an absolute measure of carbon emissions.
The Fund is also proposing to set targets in respect of capturing and measuring the carbon metrics in respect of the Fund’s other assets (for example property and private market assets), albeit the availability of carbon data for these assets is far less developed than it is for listed assets, and this is reflected in the Fund’s proposed targets. The aim is to build-up the scope, accuracy and comparability of the Fund’s carbon metrics covering these assets, to allow the Fund to meaningfully engage and monitor investment managers and track progression towards net zero by 2050. The Climate Strategy also sets out targets in respect of the Fund’s stewardship and engagement activities in respect of climate change, together with a reference to Derbyshire County Council’s corporate climate change strategy, which as the administering authority for the Fund, covers the Fund’s corporate emissions.
Why can’t the Fund commit to a faster reduction in the carbon emissions of its investment portfolio?
The target of achieving a portfolio of assets that has net zero emissions by 2050 is considered to be aligned with the aims of the Paris Agreement. Investors, such as pension funds, have an important role to play in the transition to a low carbon economy but they rely heavily on the actions of governments, policymakers, consumers and companies. Investors also rely heavily on the quality of climate-related company disclosures and the current tools and techniques for assessing climate-related risks, when making investment decisions, both of which are evolving disciplines.
As the actions of all parties develop and the quality of disclosures and assessment tools evolve, it remains essential for the Fund to invest in a diversified portfolio of assets. The targets for carbon footprint reduction and investment in low carbon and sustainable investments by 2030 are considered to be achievable. They have been based on a detailed review of:
- the Fund’s existing investment assets
- the Fund’s investment beliefs and objectives
- proposed changes to the SAAB included in the revised ISS
- products currently available in the marketplace
The proposed Climate Strategy is in line with best practice and the Fund’s stated ambition of achieving a portfolio of assets with net zero carbon emissions by 2050. For example, the target to reduce the weighted average carbon intensity of the listed asset portfolio by 60% by the end of 2030, relative to the weighted benchmark in 2020, is higher than the mid-point carbon reduction forecast of 48% by 2030 reflected in the International Panel on Climate Change’s (IPCC) Net Zero Emissions Pathway forecast. The IPCC’s Net Zero Emissions Pathway forecasts the reduction in global greenhouses at set dates (for example 2030, 2035, 2040 and 2050) to limit global warming to 1.5°C with no or limited overshoot.
The Fund’s has engaged with the Institutional Investors Group on Climate Change (IIGCC) on the development of climate strategies and targets to determine best practice. The IIGCC is the leading European membership body, with over 375 members representing €51 trillion of assets under management, enabling the European investment community in driving significant and real progress by 2030 towards a net zero and resilient future. The Fund became a member of the IIGCC in 2023. Achievement of the targets set out in the updated Climate Strategy by the end of 2030, at the same time as the continued achievement of a diversified portfolio to reduce concentration risk, will be reliant on the companies and economies within the Fund’s investment universe continuing to decarbonize.
Why does the Fund still invest in fossil fuel companies?
The Fund adopts a strategy of engagement rather than divestment from certain sectors/industries in order to influence behaviour and enhance value. While fossil fuels are expected to continue to account for a large part of total power generation in the coming decades, fossil fuel companies have a key role to play in the transition to a greener-economy and are investing significantly in renewable energy solutions.
Collaborative engagement with these companies has gained traction in recent years and the majority of the world’s leading publicly owned international oil companies have committed to being carbon neutral by 2050.
As the transition to a low carbon economy progresses and business models are reshaped, the Fund’s active investment managers will continue to assess the sustainability of fossil fuel companies’ earnings as part of the investment process.
How will the Fund report to stakeholders on progress towards the achievement of its climate-related targets?
In order to report to stakeholders on the Fund’s progress towards the achievement of its climate-related targets, the Fund will:
- prepare an annual Taskforce on Climate-related Financial Disclosures report
- report on the progression against the Fund’s carbon footprint and low carbon and sustainable investment targets on an annual basis
- report on a suite of carbon metrics in the Fund’s annual report
- disclose the stewardship reports of the Fund’s key investment managers on a quarterly basis