Key takeouts

  • Top investor concern: Climate change is almost invariably the top issue that clients around the world raise with BlackRock.
  • Climate risk is investment risk: The evidence on climate risk is compelling investors to reassess core assumptions about modern finance and to recognise that climate risk is investment risk. The letter states that 'we are on the edge of a fundamental reshaping of finance'.
  • The reshaping of finance is expected to occur (relatively) quickly: 'Because capital markets pull future risk forward, we will see changes in capital allocation more quickly than we see changes to the climate itself. In the near future – and sooner than most anticipate – there will be a significant reallocation of capital' Mr Fink states
  • New initiatives: BlackRock has announced a number of initiatives to put sustainability at the centre of its investment approach including among others, exiting investments that 'present a high sustainability-related risk' (eg thermal coal) and launching new investment products that screen fossil fuels.
  • Time to report against TCFD and SASB requirements: BlackRock is asking companies to: a) publish a disclosure in line with industry-specific SASB guidelines by year-end/disclose a similar set of organisation-specific data; and b) disclose climate-related risks in line with the TCFD’s recommendations including plans for operating under a scenario where the Paris Agreement’s goal of limiting global warming to less than two degrees is fully realized, as expressed by the TCFD guidelines.
  • Holding boards individual directors and boards accountable: BlackRock says that it will be 'increasingly disposed to vote against management and board directors when companies are not making sufficient progress on sustainability-related disclosures and the business practices and plans underlying them'.
  • Committing to enhanced transparency: In a letter to clients, BlackRock commits to a number of initiatives aimed at enhancing engagement, voting and transparency in stewardship. For example: moving to quarterly (as opposed to annual) voting disclosure and committing to enhance disclosure around engagement activity (eg the topics discussed during each engagement with a company) including in the stewardship annual report.
  • 'A fantastic start' that may 'raise the bar' BlackRock's competitors? Media reports comment that BlackRock has recently come under pressure over its voting record on climate issues. Some groups have reportedly welcomed Mr Fink's announcement. For example, the Sunrise Project is quoted as saying that 'divestment of coal in its actively managed funds, is a fantastic start and instantly raises the bar for competitors such as Vanguard and State Street Global Advisors.' However, the group also considers that more is needed. 'Even with today’s announcements, based on its size BlackRock will still remain one of, if not the largest, investors in fossil fuels. So we will be looking for additional leadership from the company'.
  • Implications? Commenting on the letter and its implications, MinterEllison's Head of Climate Risk Governance Sarah Barker said 'Mr Fink's 2020 letters follow significant stakeholder pressure on BlackRock to operationalise climate-related position statements with more ambitious, consistent investment and stewardship action. In one fell swoop, the letters cut down a number of misconceptions on which corporations (and asset owners) commonly rely to justify a 'business as usual' approach – among them that climate risk cannot be managed in passive portfolios, that divestment of companies in climate-exposed industries should not be pursued on financial grounds, that markets are already efficiently pricing the relevant risks, and that climate change is not an issue warranting board-level oversight and accountability. As the letters state bluntly: "Climate risk is investment risk"'.

Sustainability risk (including climate risk) is the theme

BlackRock Inc has released its chairman and CEO Larry Fink’s 2020 annual letter to CEOs.  The necessity of managing, planning for and reporting sustainability risk, and more particularly, climate risk is the theme.

A high level summary of the points raised by Mr Fink is below. 

Climate change is the 'almost invariably the top issue' for clients

Mr Fink says that 'climate change is almost invariably the top issue that clients around the world raise with BlackRock' (including in Australia).  More particularly he says that investors are 'seeking to understand both the physical risks associated with climate change as well as the ways that climate policy will impact prices, costs, and demand across the entire economy'.

In a separate letter to clients (released at the same time as his annual letter to CEOs), Mr Fink nominates climate change, not only in terms of the physical risk associated with rising global temperatures, but also transition risk as the 'most significant' of the broader sustainability risks facing investors and companies going forward.

The 'reshaping of finance'

Mr Fink writes that the evidence on climate risk, and the level of stakeholder concern and increased understanding of how sustainability-related factors can affect economic growth, asset values, and financial markets as a whole, is compelling investors to 'reassess core assumptions about modern finance' and ultimately to recognise that 'climate risk is investment risk'.  As such, he considers that 'we are on the edge of a fundamental reshaping of finance'. 

Mr Fink goes on to say that he expects this shift to occur (relatively) quickly.  'Because capital markets pull future risk forward, we will see changes in capital allocation more quickly than we see changes to the climate itself.  In the near future – and sooner than most anticipate – there will be a significant reallocation of capital' Mr Fink states. 

An immediate wholesale shift is not yet technically feasible, or responsible?

Mr Fink cautions that an immediate shift is neither feasible (as yet) or necessarily 'fair'.   'Despite recent rapid advances, the technology does not yet exist to cost-effectively replace many of today’s essential uses of hydrocarbons' and in consequence, it's necessary to 'be mindful of the economic, scientific, social and political realities of the energy transition'.

He adds that the transition must also be accomplished responsibly, 'governments and the private sector must work together to pursue a transition that is both fair and just – we cannot leave behind parts of society, or entire countries in developing markets, as we pursue the path to a low-carbon world'.

Sustainability to be central to BlackRock's investment approach: new initiatives announced

Mr Fink writes that though government must 'lead the way' and ultimately set the pace for the transition to a low carbon economy, both companies and investors have a 'meaningful role to play'.  'Every government, company, and shareholder must confront climate change' he writes.

The letter flags that BlackRock has written to clients to announce a number of initiatives aimed at putting sustainability at the centre of its investment approach.  These initiatives include: 

  1. making sustainability integral to portfolio construction and risk management.  
  2. exiting investments that present a high sustainability-related risk, such as thermal coal producers.  
  3. launching new investment products that screen fossil fuels; and 
  4. strengthening BlackRock's commitment to sustainability and transparency in its investment stewardship activities

Mr Fink's letter to clients provides further detail around these initiatives.

With respect to exiting thermal coal producers the letter states that BlackRock is 'in the process of removing from our discretionary active investment portfolios the public securities (both debt and equity) of companies that generate more than 25% of their revenues from thermal coal production, which we aim to accomplish by the middle of 2020'.  The letter goes on to say that part of BlackRock's process of evaluating sectors with high ESG risk, it will 'closely scrutinize other businesses that are heavily reliant on thermal coal as an input, in order to understand whether they are effectively transitioning away from this reliance. In addition, BlackRock’s alternatives business will make no future direct investments in companies that generate more than 25% of their revenues from thermal coal production'.

Improved sustainability disclosure (including climate disclosure) is required

Echoing previous letters, Mr Fink emphasises the importance of sustainability and link between long-term sustainability and profitability.  'The importance of serving stakeholders and embracing purpose is becoming increasingly central to the way that companies understand their role in society. As I have written in past letters, a company cannot achieve long-term profits without embracing purpose and considering the needs of a broad range of stakeholders… Ultimately, purpose is the engine of long-term profitability' he writes.

Mr Fink goes to call for increased transparency, in the form of 'improved disclosure', around sustainability efforts.   'We believe that all investors, along with regulators, insurers, and the public, need a clearer picture of how companies are managing sustainability-related questions. This data should extend beyond climate to questions around how each company serves its full set of stakeholders, such as the diversity of its workforce, the sustainability of its supply chain, or how well it protects its customers’ data. Each company’s prospects for growth are inextricable from its ability to operate sustainably and serve its full set of stakeholders' he writes.

Time to report against the SASB guidelines and TCFD recommendations

Despite the strides that have been made towards integrating and reporting on sustainability, Mr Fink considers that there is a need for 'more widespread and standardised adoption' and as such calls on companies to both:

  1. publish a disclosure in line with industry-specific Sustainability Accounting Standards Board (SASB) guidelines by year-end, or to disclose a similar set of organisation-specific data; and 
  2. disclose climate-related risks in line with the Taskforce on Climate related Financial Disclosures (TCFD’s) recommendations including plans for operating under a scenario where the 'Paris Agreement’s goal of limiting global warming to less than two degrees is fully realised, as expressed by the TCFD guidelines'.

Mr Fink states that BlackRock will use these disclosures, in combination with engagement efforts, to assess the extent to which risks are being 'properly managed' and the extent to which organisations are 'adequately planning for the future'.  He cautions that in the 'absence of robust disclosures, investors, including BlackRock, will increasingly conclude that companies are not adequately managing risk' and that this may be reflected in BlackRock's voting behaviour.

BlackRock to provide TCFD aligned disclosure by the end of the year

Reflecting on BlackRock's own reporting against these requirements, Mr Fink observes that it is 'not yet where we want to be' but is 'continuously working' to improve.  He points out that SASB-aligned disclosure is already available on the BlackRock website, and that BlackRock will release TCFD-aligned disclosure by the end of 2020.

Increase and improve disclosure or else?

The letter identifies two potential negatives in failing to provide increased disclosure.

  1. First, Mr Fink states that companies that fail to respond to stakeholder calls for increased transparency around management of sustainability risks 'will encounter growing scepticism from the markets, and in turn, a higher cost of capital'.  In contrast, 'companies and countries that champion transparency and demonstrate their responsiveness to stakeholders, by contrast, will attract investment more effectively, including higher-quality, more patient capital'.
  2. Second, referencing BlackRock's voting record over the last year, and more particularly the fact that BlackRock voted against or withheld votes from 4,800 directors at 2,700 different companies, Mr Fink states that 'where we feel companies and boards are not producing effective sustainability disclosures or implementing frameworks for managing these [sustainability] issues, we will hold board members accountable'.

Mr Fink concludes by saying that 'given the groundwork we have already laid engaging on disclosure, and the growing investment risks surrounding sustainability, we will be increasingly disposed to vote against management and board directors when companies are not making sufficient progress on sustainability-related disclosures and the business practices and plans underlying them'.

BlackRock commits to increased transparency

BlackRock's letter to clients outlines a number of initiatives aimed at enhancing engagement, voting and transparency in stewardship.  

These include: a) joining Climate Action 100+; b) clarifying expectations of companies through mapping engagement priorities to specific UN Sustainable Development Goals (eg Gender Equality and Affordable and Clean Energy) and incorporating key performance indicators in engagement policies; c) moving to quarterly (as opposed to annual) voting disclosure; d) committing to prompt disclosure of how BlackRock voted and the reasons why for 'high profile votes'; and e) enhancing disclosure around engagement activity (eg the topics discussed during each engagement with a company) including in the stewardship annual report.

Response from climate groups?

'A fantastic start' that raises the bar for BlackRock's competitors?

Reportedly some climate groups have welcomed Mr Fink's announcement and suggested that it may push BlackRock's competitors to take a similar stance.  For example, Diana Best, of the Sunrise Project is quoted as saying that 'divestment of coal in its actively managed funds, is a fantastic start and instantly raises the bar for competitors such as Vanguard and State Street Global Advisors'. 

However, the group is also reportedly of the view that more is required, 'Even with today’s announcements, based on its size BlackRock will still remain one of, if not the largest, investors in fossil fuels. So we will be looking for additional leadership from the company'.

Other groups are reportedly more cynical?

Some media reports have referenced recent criticism of BlackRock's climate record. Extinction Rebellion has reportedly said the announcement will make little difference.  'BlackRock remains waist-deep in fossil fuel investments and the world’s top backer of companies that destroy the Amazon rainforest and ignore the rights of indigenous people' the group is quoted as saying.

Implications?

'Commenting on the letter and its implications, MinterEllison's Head of Climate Risk Governance Sarah Barker said: 

'Mr Fink's 2020 letters follow significant stakeholder pressure on BlackRock to operationalise climate-related position statements with more ambitious, consistent investment and stewardship action. In one fell swoop, the letters cut down a number of misconceptions on which corporations (and asset owners) commonly rely to justify a 'business as usual' approach – among them that climate risk cannot be managed in passive portfolios, that divestment of companies in climate-exposed industries should not be pursued on financial grounds, that markets are already efficiently pricing the relevant risks, and that climate change is not an issue warranting board-level oversight and accountability.  As the letters state bluntly: "Climate risk is investment risk"'.

Expert guidance on climate risk

MinterEllison has prepared a plain language guide to climate risk and the associated risks and opportunities for business. The guide can be accessed on the MinterEllison website here.