The Carbon Footprint Ranking of UK Investment Funds

16th July, 2007

Trucost, the international environmental research organisation that produced the environmental reporting guidelines for business for the UK government, has released its annual ranking of UK investment funds based on their carbon emissions. Carbon Counts 2007: The Carbon Footprint Ranking of UK Investment Funds enables investors and others to compare investments on an environmental basis and highlights the exposure of the funds to the increasing cost associated with greenhouse gas emissions.

The report ranks the carbon intensity of 185 UK investment funds, the largest ever ranking of funds on this basis, and reveals the best and worst performing funds in terms of their Carbon Footprint. The funds are analysed across four categories: SRI, Growth, Income and Trackers. Together, these funds have £73.65 billion under management.

The carbon emissions of UK companies increasingly carry a price following the introduction of the EU Emissions Trading Scheme in 2005. Carbon Counts 2007: The Carbon Footprint Ranking of UK Investment Funds provides valuable information to fund managers looking to control and measure the risks associated with carbon emissions in their portfolios, as well as individual investors seeking to get the most out of their investments while taking greater responsibility for the environment.

Key highlights:-

• The Carbon Footprint of the funds analysed varies dramatically: the worst fund has a footprint almost ten times as large as the best fund.
• 37% of funds are exposed to greater potential carbon liabilities than the FTSE All-Share index.
• The study demonstrates that it is possible to reduce fund exposure to future carbon liabilities without affecting returns.
• It is possible to produce the returns of the index while substantially reducing the carbon emissions associated with the portfolio. The Trucost Carbon Optimised Tracker Portfolio matches the financial performance of the FTSE 350 (ex. Investment Trusts) whilst increasing the carbon efficiency by an average of 25% over an 8 year period.
• It is also possible to ‘green’ other investment strategies: Trucost have carbon optimised a Growth Fund from the study, improving the carbon efficiency by 21% without affecting its financial performance.
• There is no gain in financial performance from ignoring the environment funds with larger Carbon Footprints do not produce higher returns.
• The three funds with the smallest Carbon Footprint are Socially Responsible Investment (SRI) funds, however, a quarter of SRI funds are more carbon-intensive than the benchmark.
• Of the ten most carbon-efficient funds, half are SRI funds and half are Growth funds.
• Overall the holdings of the 185 funds researched are responsible for carbon emissions of over 41 million tonnes of CO2 equivalents a year. If carbon emission permits were to be purchased for these emissions, based on the average 2008 carbon settlement price for 2006 of €19.47 per tonne the cost of credit purchased to cover these emissions would be in the region of £535 million each year.
• The impact of moving a £7,000 investment from the least carbon efficient fund to the most carbon efficient fund is 10 tonnes per annum. The average UK household emits 10 tonnes of CO2 per year.

Simon Thomas, Chief Executive of Trucost, said:

“There is a huge range of Carbon Footprints from the best to the worst funds in each category. So if investors want to invest in carbon-efficient funds – and the evidence is that they increasingly do - they are now able to assess whether the fund really is less carbon intensive than its peers.

We expect the impact of carbon costs to increase in future years as regulation increases and this will inevitably have a negative impact on the performance of those companies with relatively large carbon footprints compared to their peers.

Using Trucost’s optimisation approach, fund managers can now achieve the same financial performance while significantly decreasing their Carbon Footprint.”

The results

The best performing funds overall were the SRI funds Prudential Ethical Trust, followed by AXA Ethical Acc and Sovereign Ethical. Half of the ten most carbon-efficient funds were SRI funds and half were growth funds.

The best funds in each category were Prudential Ethical Trust (SRI), F&C UK Mid Cap 1 Acc (Growth), JOHCM UK Equity Income GBP Acc Retail (Income), AXA UK Tracker (FTSE All-Share Tracker) and Scottish Widows UK Tracker Acc (FTSE 100 Tracker).

The Carbon Footprint of two FTSE indices were also measured. FTSE All Share (ex. Investment Trusts) had a footprint of 680 tonnes per £ million turnover. The FTSE 350 (ex. Investment Trusts) and the FTSE 100 were slightly higher at 692 and 750 respectively.

Trucost Carbon Optimised Tracker Portfolio

To demonstrate that there is no gain in financial performance from ignoring the environment, Trucost commissioned an independent backtest of a Carbon Optimised Tracker Portfolio over an 8 year period.

The portfolio mirrors the sector weightings of the FTSE 350 (ex. Investment Trusts), but rebalances the companies within sectors by overweighting less carbon intensive companies and underweighting more carbon intensive companies.

Such a portfolio is designed to benefit from any increase in regulation controlling carbon emissions without sacrificing financial performance.

The portfolio achieved an average carbon reduction of 25% with a tracking error of +/- 0.5%.

This confirms that fund managers can manage their exposure to carbon emissions without sacrificing returns and retail investors can get the most out of their investments with minimum environmental impact.

It is possible to ‘green’ other investment strategies

To demonstrate that it is possible to reduce the carbon burden associated with any investment strategy, Trucost has applied the carbon optimisation technique to the holdings of a Growth fund analysed in this study. In order to maintain a similar risk profile, sector weightings were maintained.

The results from the case study showed a 21% reduction in carbon emissions for the Growth fund. Returns following carbon optimisation were slightly improved at +0.1%.

Footprint Methodology

Using its unique and extensive database of the environmental impacts of all the major companies, Trucost studied SRI and mainstream investment funds, both active and tracker funds, with over 80% of their portfolios invested in the UK and calculated the greenhouse gas emissions for which these companies were responsible.

The greenhouse gas emissions for each holding were calculated and converted into tonnes of carbon dioxide equivalents (CO2-e) based on ‘Global Warming Potential’ factors. Each holding's contribution to the emissions profile of the portfolio was calculated on an equity ownership basis and aggregated to form a total for the whole fund. This total was then normalised by sales to calculate the fund's Carbon Footprint, or "carbon intensity" for each pound of investment. This quantitative approach enables businesses of very different sizes within different industries to be compared to each other. The lower the number, the smaller the Carbon Footprint, which means the portfolio has lower exposure to the rising costs of emitting carbon and has a smaller impact on global warming.

Over the last two years Trucost’s research has been increasingly utilised by the investment community. Clients include: BlackRock, CCLA Investment Management, Crédit Agricole Asset Management, Environment Agency Pension Fund, Fond de Réserve pour les Retraites (FRR), Fortis Investment Management, GLG Partners, Governance for Owners, Henderson Global Investors, Hermes Pensions Management Ltd, Morley Fund Management and VicSuper Pty Ltd.

For further information, please contact: Wendy Ferguson: +44 207 321 3772

Trucost Plc
Winner of the Sustainable City Awards 2006/7
Trucost won the Sustainable and Ethical Investment and Asset Management Category at the City of London Corporation's Sustainable City Awards 2006/7 for its report: Carbon Counts - The Trucost Carbon Footprint Ranking of UK Investment Funds