Trucost Plc.

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About Trucost

A globally recognised environmental research company with 10 years experience

45+ staff including 17 research analysts

Clients include UBS, Deutsche Bank, Merrill Lynch, Fortis Investments, GLG Partners, Department for Environment (UK), Virgin Money, Credit Agricole Asset Management, BNP Cortol Consors, Euronext NYSE, Henderson Global Investors, Hermes

Authors of the UK Government’s Guidelines on Environmental reporting for companies

Quantitative research approach to environmental performance measurement

Proprietary input/output model calculates emissions in absence of adequate corporate disclosure - Methodology supported by Academic Advisory Panel

World’s largest global database of environmental disclosures

Universal Owner Project: Addressing externalities through

collaborative shareholder engagement

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The Project

Addressing externalities through collaborative shareholder engagement

The aims of the project are as follows:

Identify and prioritize the most economically harmful environmental externalities related to corporate activity that, if addressed, could have a positive impact on the economy (regionally or globally), the capital markets and ultimately on investor returns.

Identify key areas of focus and actions that investors can take such as collaborative shareholder engagement.

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What are Environmental Externalities?

Externalities: A consequence of an economic activity that is experienced by unrelated third parties. An externality can be either positive or negative.

E.g. Manufacturing that causes air pollution imposes costs on the whole society

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Capital markets are intrinsically linked to the global economy

The growth in global GDP on an annual basis is highly correlated with the growth in

capital markets

As a consequence, externalities that affect the growth of the global economy will affect

the growth of the capital markets and, therefore, the returns to universal investors

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Universal Owners

A Universal Owner is an institutional owner whose holdings are highly diversified and,

typically, held long-term.

The holdings of many institutions are a small but significant cross-section of publicly

traded stock and debt in the economy and, therefore, represent a share of the entire

economy.

A truly Universal Owner would own a weighted selection of financial assets in proportion

to global capital markets

• U.S. institutional investors’ ownership of 1,000 largest U.S. Companies was 76% as at 20072

• The value of the top 3,000 public companies globally equates to ~90% of global equity market3

1.Trucost research

2.Pensions & Investments online, “The 2008 Institutional Investment Report: Trends in Institutional Investor Assets and Equity Ownership of U.S. Corporations”

3.Trucost research, Bloomberg, World Federation of Exchanges

Universal Owners are exposed to the effects of externalities on the global economy

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Findings: Global Environmental Externalities

External costs vary by type and region

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Findings: Major Global Environmental Externalities

65%

18%

7%

5%

1%

1%

3%

0% Greenhouse Gas Emissions

Water Abstraction

Air Pollution (including SOx, NOx, Particulate Matter)

Volatile Organic Compounds

Fish

Timber

General Waste

Heavy Metals (Mercury emissions only)

65% of global environmental externalities arise from greenhouse gas emissions

Water abstraction and air pollution are also major externalities causing 25% of global

external cost

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Credit crunch

• There are important parallels between the financial crisis and global

warming

• We’re living through the credit crunch – are we about to see a carbon

crunch?

• “We cannot be certain (until it is too late) that continuing to emit carbon

at our current pace will lead to disaster; but we do know that the chance

of a catastrophic outcome is high enough to make insuring against

worst-case scenarios the rational response. Surely the financial crisis

has taught us that a low-probability tail risk is still a risk.” FT, Tuesday

3rd November

Ecological crunch – Carbon Crunch

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Post Copenhagen

• Many commented on the excess leverage in the global economy, but

risk models failed to take this into account

• Is there another inconvenient truth out there?

• Most scientists believe that human induced climate change is

happening

• Whatever your personal views, the political establishment has come to

believe the scientists

• Regulations that place a price on the carbon emissions of companies

exist and will increase post Copenhagen

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• Cap and trade schemes and other carbon pricing methods create

winners and losers among companies

• Whether a company is a winner or a loser depends on how carbon

efficient it is compared to its peers

• Goldman Sachs research predicts: “At a carbon cost of US$60, 10% of

total cash flow of listed companies will be transferred from companies

with below average carbon efficiency to those with above average

efficiency.”

• Data on the carbon efficiency of companies will increasingly give

investment advantage

• But it is difficult to get comprehensive, comparable, consistent data

Post Copenhagen

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Environmental reporting: dilemma 1

Poor disclosure by companies: some geographies are worse than

others

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Environmental reporting: dilemma 2

Lack of standardisation or inaccurate data when companies do report

Example: International Power

Reported to CDP4

• 84,430,200 tonnes CO2

Reported to Trucost

• 68,530,000 tonnes CO2

International Power website

• 52,000,000 tonnes CO2

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Environmental reporting: dilemma 2

• “It appears we have not applied the revised GHG protocol definitions”

• Resulted in 70 million tonnes of carbon being ‘misplaced’

• 10% of the UK’s entire carbon emissions

• No revision to the CDP database – no analysts, no model to compare

disclosures with

Lack of standardisation or inaccurate data when companies do report

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Portfolio carbon footprints

• Trucost has comprehensive, standardised, normalised data on over

4,500 companies allowing comparison between investment portfolios

and benchmark indices

• Trucost has 5 years’ back data for most investment indices

• Trucost has been commissioned by over 1,000 equity funds with more

than 1 trillion in AUM to measure their relative exposure to carbon

pricing

• It is not uncommon to find funds that are running 5x as much carbon

risk relative to their benchmark and peers

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Environment Agency Pension Fund reduces its footprint year on year

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How can carbon price risk be reduced?

• Divest of companies in high emitting sectors (negative screening)

• Boycott certain sectors entirely

• This is what many SRI strategies do in reality

• But this has important consequences

• It introduces huge non-market risk

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How should carbon price risk be reduced?

• “What is needed are investment strategies that relatively reward

companies that are more carbon efficient and which penalise less efficient

companies while keeping a neutral exposure to sectors as a whole.”

• Trucost has worked with a number of investment companies and index

providers to do precisely that – including S&P and Deutsche Bank

• Because these strategies do not necessarily exclude any companies and

are sector neutral, they track their underlying indices very closely

• The tracking error of the S&P US Carbon Efficient Index is around 0.5%

yet the re-weighted companies emit 48% less carbon per annum than the

S&P500

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What happens if carbon prices go up?

• These funds and indices track their parent indices so they are essentially

passive, except in one particular circumstance, i.e. when/if carbon prices

increase

• They reduce exposure to the systemic risk of regulations designed to

control climate change – and they do so at no cost to financial performance

• Trucost has proved beyond a shadow of a doubt that it doesn’t cost

anything to invest greener

• “We cannot be certain (until it is too late) that continuing to emit carbon at

our current pace will lead to disaster; but we do know that the chance of a

catastrophic outcome is high enough to make insuring against worst-case

scenarios the rational response. Surely the financial crisis has taught us that

a low-probability tail risk is still a risk.” FT, Tuesday 3rd November

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Carbon Optimised Investment Products

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