- IMD Business School

Deploying private capital in pursuit of environmental goals

elea Webinar Series
55 min.
May 2020


This webinar, led by Professor Vanina Farber, elea Chair of Social Innovation and Steve Freedman, Senior Product Specialist in the Thematic Equities team, Pictet Asset Management (AM) appeared live on Wednesday, 27th May at 11AM CEST.

Restoring damaged ecosystems and respecting planetary boundaries is vital to avoid the destruction of nature and preserve our social, economic and systemic values.

With this in mind, what investment trends are currently generating deep positive environmental impact? What frameworks are available to asset managers to consider environmental investments and help produce lasting change? What recurrent themes occur in today’s investment opportunities?

These are questions asked in this webinar, hosted by Professor Vanina Farber. Her guest, Steve Freedman, discusses thematic investments, and specifically those designed to create impact on environmental dimensions.

Steve Freedman outlines the planetary boundaries approach; a science-based framework for environmental management, which consists of nine critical environmental dimensions and which is integrated into Pictet Asset Management’s approach to environmental investing. The four of these dimensions that are the most at risk are: climate change, disruption to biochemical flows, deforestation and loss of biodiversity.

On the challenge of reduced biodiversity, Freedman says “a loss of biodiversity is [being seen as] a loss of economic value. This is starting to sink in, so we’re beginning to see change in investor focus.”

Understanding the types of externalities that current business practices have on the environment and their potential for catastrophic tipping points can help to inform the investment strategies of asset managers and the varied investment approaches to be adopted.

Freedman uses a common categorization of responsible investment strategies to highlight pathways for different investor types. These range from “light-touch” exclusionary investment strategies that are designed to avoid negative environmental outcomes to much more proactive impact investment strategies, aiming to drive positive change purposefully.

Pictet Asset Management has defined a set of economic activities that are “environmental solutions” in that they contribute to reducing the pressure on some planetary boundaries’ dimensions. These categories are used to structure their environmentally focused thematic equity portfolios. Two broad rationales underpin the broad range of solutions in this universe: resource efficiency and environmental quality.

With a $2 trillion market growing at 6-7% per year, what’s the expected rate of return on thematic investments?

“Our experience has been that [thematic equity investments] can outperform global equities by a few percentage points over full market cycles. While that’s only an indication, we believe that focusing on environmental or other long-term trends can help deliver competitive performance,” says Steve Freedman.

Professor Farber reinforces the point that while prior performance cannot necessarily guarantee rates of return in the future, increasing evidence shows that sustainable portfolios are outperforming relative to benchmarks. Freedman clarifies that Pictet Asset Management’s thematic investing strategy is focused on listed companies that are not capital-constrained, with business models that can be as profitable as anything else.

“For investors looking for deep environmental impact, blended finance is a promising form of innovative social and environmental finance that brings together funding from different stakeholders,” says Freedman.

“To create such coalitions, determining the value of ecosystem services arising from an environmental project is critical. Ecosystem services can be thought of as the cashflow from natural capital. Nature has a value and determining it can help protect it.”

A key insight is that firms need to understand how their value chains impact the environment. Steve Freedman responds to questions about the circular economy and how this is understood in the context of environmental investing.

“We need to start seeing planet earth as a spaceship that is completely self-sufficient. This is the way natural processes have always been and we now need industrial processes to be circular as well, in order to be fully sustainable in the long term,” says Freedman.

From an environmental perspective, we can consider this in a narrow sense of fully closed economic loops e.g. perfect recycling. “Many companies are emerging with such business models and you’re seeing initiatives that make processes more circular becoming more prevalent in larger companies,” says Steve Freedman.

In its broader sense, he explains how activities that extend the lifespan of products, machinery or capital are also a part of the circular economy. Beyond common stock, to finance these large-scale capital expenditures, fixed-income securities are one type of solution where asset managers can play a role.

In fixed-income markets, Freedman underscores the emergence of green bonds “which is the closest to thematic investing in the fixed income space.”

He clarifies that impact in the green bond market is still relatively limited because financing isn’t going to directly to projects that are green themselves. “You’re financing an issuer and the issuer is earmarking the proceeds to finance a green project.

“In some ways, [green bonds] have been an interesting way for issuers to highlight their green initiatives and in some cases to get access to cheaper funding because some investors are simply interested in green bonds,” says Steve Freedman.

Corporate issuance of green bonds in the market today is not large enough to have a significant impact. The market has traditionally been dominated by multilateral agencies. In the US, there is some presence of municipal issuers while in Europe some corporate issuers play a bigger role.

Freedman introduces the notion of “innovative social and environmental finance”, which is underpinned by the concept of “ecosystem services”.

“Ecosystem services are the cash income from nature. You can classify nature’s value in different ways: you can think of nature as a source of resources (minerals and for agriculture). You can also think of nature as providing important filtering systems to purify air and water, for example.

“Nature also provides critical services such as photosynthesis which is vital for all life on earth. Intangible services are also provided by nature, which are more human-centric. For example, the recreational and psychological benefits of being in nature also has a value,” says Freedman.

Steve Freedman closes the webinar focusing on a few key takeaways. These include how pay-for-success initiatives point to the importance of impact measurement and for these schemes to take hold fully in the financial sector

“With the rise in impact investing, we need to focus not only on the financial but to a much greater degree on the impact bottom line. The financial bottom line is well-known, and we know how to measure it. The impact bottom line is much more difficult to quantify,” Freedman says.

Professor Farber adds that “impact measurement is becoming a very valuable skill even in the traditional corporate career” suggesting that it is no longer wholly the domain of careers in NGOs or international organizations as it has been in the past.

To find out more about upcoming webinars from the elea Center for Social Innovation, please visit the Center’s page here.


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