Nature-based investing: A question of time?
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Nature-based assets could be the next frontier for pension funds when it comes to environmental, social and governance investing – from forestry and agriculture to ocean management, private capital is sought after, but will pension funds see a case?
The world will need $8.1tn of investment in nature by 2050 to tackle the planetary crisis, the UN Environment Programme found earlier this year in its State of Finance for Nature report. It said nature-based solutions will have to triple by 2030 and increase four-fold by 2050 from the current investments of $133bn.
“Private capital will also have to be scaled up dramatically to close the investment gap. Developing and scaling up revenue flows from ecosystem services and using blended finance models as a means to crowd in private capital are among the suite of solutions needed to make this happen, which also requires risk-sharing from private sector entities,” UNEP said.
Government wants to leverage private capital
The Environmental Audit Committee, in its report, Biodiversity in the UK: bloom or bust? from June this year called the government to greater account for nature in economic decision making in order to address biodiversity loss.
In the UK, 15% of all species are threatened with extinction, making it a nature-depleted country. The government, in its response to the Dasgupta review on biodiversity, said it will bring in a target on species abundance for 2030 which aims to halt the decline of nature. It plans to create a 'Nature for Climate Impact Fund' to "leverage private finance into new natural capital markets for carbon, water quality, biodiversity, natural flood alleviation and other ecosystem services".
Industry groups involved in nature management are also looking to tap private capital. The World Ocean Council, a business alliance for corporate ocean responsibility, has set up an Ocean Investment Platform which argues that there are “opportunities for long term investment in key sectors, including port infrastructure development and adaptation, sustainable fisheries and aquaculture, offshore renewable energy and other areas”.
Long-dated and illiquid
Whether pension funds will warm to the idea of investing in nature-based solutions is yet to be seen; to date, interest has been muted, said Cadi Thomas, an investment consultant at Isio. Defined benefit schemes especially tend to be derisking, whereas many nature-based investments fall into higher risk asset classes like private equity, she observed.
Such investments also tend to be long-dated and illiquid. “If we talk about trees, a usual forestry fund would require the planting, growth and selling of trees. That time is a long time. How do you package that type of solution in such a way that it’s accessible?” she said.
Some of these issues make accessing nature-based investments difficult. “You can take crops and make them more sustainable, try and harvest without destroying soil which releases carbon, but how do you make these projects with institutional investors without them needing to lock up money for so long? It would be helpful if COP could shed a light on that and if managers could launch products,” said Thomas. Product availability is a problem, but Thomas is hopeful that this will change over time.
One US manager that has made farmland investments is Nuveen, a subsidiary of the non-profit Teachers Insurance and Annuity Association of America-College Retirement Equities Fund. The manager applies and helped develop the UN-backed Principles for Responsible Investment Farmland Guidelines in 2011.
“Our aim is to provide opportunities for investors to access high quality nature-based investments, delivering diversified returns, attractive yields and importantly in the current environment, a hedge against inflation,” said Martin Davies, president of Westchester by Nuveen.
Climate factors, consumer trends and tastes and diversification are important, he stressed.
“Nature-based investments also have an unparalleled role in mitigating the effects of climate change and, as a result, demand from institutional investors is growing. Approximately 10GT of carbon emissions can be saved annually by protecting our forests and pasture land, restoring wetlands and adapting and improving the management of commercial farmland and timberland; as the COP26 conference in Glasgow has highlighted, mitigating climate change must include nature-based solutions at its core,” said Davies.
What is the legal position?
Trustees are bound by their fiduciary duty and, as a result, by risk/return considerations, but this does not exclude them having a positive real-world impact, said partner at law firm Sackers, Stuart O'Brien. "Indeed, in many cases the two will be positively correlated," he said, as what is sustainable for nature might also be the more sustainable investment financially.
There is a bigger question about the potential improvements to the quality of life of beneficiaries from such investments, he suggested, but admitted that the law does not currently lend itself well to such an interpretation.
"Looked at through a narrow lens it may be hard to connect a single investment decision of a single trustee board with any real world improvement in the quality of life of that pension fund’s members, so there is a legal stumbling block in terms of the extent to which trustees can take this into account," he said. "But if we’re going to solve the climate crisis I think we need to stop looking at things through this narrow lens. There’s a challenge here for the industry to pick up. Can we start to act collectively as universal owners? And if so, can trustees start to take this into account as a relevant factor in their investment decision making as ultimately being in the best interests of their beneficiaries?"
Will regulatory changes force pension funds’ hand?
At COP26, the UN climate conference currently underway in Glasgow, 105 countries have committed to reducing methane emissions – generated among others by farm animals – by 30% by the end of the decade, in an initiative launched by the US and the EU. Delivering on the Global Methane Pledge would reduce warming by at least 0.2 degrees Celsius by 2050.
Thomas said it will be “super interesting to see how that gets priced into the market”, especially for companies such as large US supermarkets with a significant exposure to agriculture supply chains.
Such risks to pension assets should in principle be factored in and mitigated by trustees and their advisers, but may not currently feature high on the agenda. Louise Pryor, president of the Institute and Faculty of Actuaries, said the IFoA has recommended to the Environmental Audit Committee that efforts are made to address the legal and regulatory structural barriers which impede the flow of capital for investment in new greening projects.
“Biodiversity risks should be treated in the same way as climate risk. The two cannot be separated: biodiversity is impacted by climate change and also helps accelerate climate change. Pension funds can play a role by both recognising these risks and by investing in nature-based solutions,” she said.
