How Transitioning to a Low-Carbon Economy Impacts Equity Markets

JPMorgan report says the impact of climate transition across and within sectors is likely to vary significantly.


The “drag on corporate profitability” from a transition to a low-carbon economy could lead to average equity values experiencing  a “modest fall” of around 3%, according to a new report from JPMorgan. However, the report also said this will likely vary significantly across sectors and countries, and that there are “countervailing forces at play.”

Sectors that are expected to see gains from shifting to a low-carbon economy are, not surprisingly, renewable energy and green infrastructure. And the sectors that are likely to be hit the hardest include energy, materials, consumer cyclicals—particularly the auto industry—and some utilities.  

“Companies in these sectors will suffer from demand destruction as the goods they sell become less sought-after and carbon costs become an ongoing burden,” according to the report. “A company’s emissions intensity and its capacity to pass on carbon costs to consumers will determine how difficult the climate transition will be for an individual company.”

Because fossil fuel extraction and oil consumption are significant causes of carbon dioxide emissions, most oil companies “will likely suffer” as the world moves toward a low-carbon economy, according to the report. However, it said that these risks are not new to the market and the underperformance of the energy sector over recent years indicates that these risks might be starting to be priced in already.

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JPMorgan also said it expects “quite meaningful dispersion” within the energy sector for three main reasons: First, some types of oil extraction are more polluting than others, and will likely face tougher curbs on their activity. Reduced access to capital is also already hitting oil supply growth and is likely to disproportionately affect producers that are more reliant on external capital. And third, some big oil companies are using their infrastructure, access to capital, long-term investment approach, and technological expertise to rebrand as “big energy” companies.

The report cited as an example oil giant BP announcing a decarbonization strategy that includes a 40% reduction in oil and gas production, and a tenfold increase in its investment in green energy. It also noted that Danish energy company Ørsted has changed its focus from producing oil and gas to renewable energy, and is now the largest offshore wind farm company in the world.

“Markets have been slow to distinguish between energy companies that embrace the transition to a low-carbon economy and those that do not,” the report said. “However, more recently, investors have started to welcome announcements by oil companies to shift toward new markets.”

JPMorgan also said it found a “positive correlation” between a company’s exposure to technologies supporting a low-carbon transition and its price-to-book ratios, as firms more exposed to transition technologies have higher price-to-book ratios.

“In sum, the nuanced impact of the transition to a low-carbon economy underscores the value of an active approach to security selection,” according to the report. “We believe that investors should construct their equity portfolios to be ‘transition ready.’ This can help insulate them from the risks of climate change while seizing the investment opportunities made possible by the transition.”

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TPR Warns Trustees to Prepare for Plan Sponsor Distress

Regulator says trustees must act quickly to protect savers if they spot warning signs of an employer’s financial difficulties.

The Pensions Regulator (TPR) has published guidance urging trustees of UK defined benefit (DB) plans to begin preparing for the possibility that their sponsoring employer is in financial distress.

TPR said that despite government economic support packages, COVID-19 continues to have a “profound impact” on the economy, including plan sponsors and the pensions industry. The regulator is calling on trustees to act quickly to protect savers if their employer is in financial distress or facing insolvency. It said trustees must actively monitor their employer’s health to look for warning signs, and should also be prepared for any issues related to Brexit.

The guidance from TPR is intended to help trustees prepare for possible financial difficulties of their sponsors by providing methods for risk management with workable contingency plans.

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“When sponsoring employers experience financial distress or make business disposals, it can cause significant risks to DB schemes and we know that, sadly, in the current climate, some employers are struggling,” Mike Birch, TPR’s director of supervision, said in a statement. “The current environment is also leading to an increased level of corporate transactions, some of which are completed in response to distress.”

Birch said “trustees are the first line of defense for savers” and “should know the signs of distress,” adding that “preparations can be made before these signs appear.”

He said trustees should monitor their employer’s trading and, if the company seems to facing restructuring or refinancing, the trustees should have open discussions with the employer and other stakeholders to make sure the pension plan is being treated fairly and to protect the interests of their members.

The guidance includes examples showing how a plan’s position can be worsened by corporate activity or sudden changes in fortunes. According to the guidance, key warning signs of financial distress may include cash flow constraints, credit downgrades, removal of trade credit insurance, disposal of profitable business units, and a loss of a key customer contract.

According to the guidance, all trustees should adopt a fully documented integrated risk management approach to their plan, which TPR said will highlight problems early on. The regulator emphasized that the sooner trustees act, the better chance they have of protecting the plan’s position. It also said trustees should regularly review the risk management and governance procedures.

The key points of the guidance include:

  • Trustees should engage regularly with the sponsor and with other creditors, if applicable, to identify and manage key risks early on;
  • If trustees delay setting plan protections in place, other stakeholders, such as lenders, will be in a better position to exert control over and extract value from a distressed sponsor, potentially to the detriment of the plan;
  • Trustees should be aware of pension scams or unusual transfer activity and prepare a communications strategy to support members when they are facing uncertainty; and
  • If a sponsor is facing the prospect of insolvency, trustees should refer to the Pension Protection Fund (PPF) contingency planning guidance.

Related Stories:

COVID-19 Has Shaken Up Vast Majority of Plan Sponsors

TPR Tightens Regulatory Grip

How COVID-19 Will Change the Investing Landscape

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