The amount invested in companies with good and improving ESG ratings is then increased, while the amount invested in companies most vulnerable to climate change is reduced.

This process creates a diversified global fund that is designed to reduce exposure to companies most at risk from climate change while also tilting towards companies that could be best placed to access opportunities arising from the transition to a lower-carbon economy.

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Creating the fund

The process of creating a fund begins with a list of the world’s largest companies. The combined total market value of these companies is calculated, along with the specific proportion attributable to each company. A company the size of Apple, for instance, may account for 4% of this total, so £4.00 of every £100 would go into buying Apple shares.

Companies that get a substantial amount of their income from the business activities listed below are removed from the initial list.

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Exclusions

The Ethical Fund has been designed to exclude companies that gain a significant portion of their revenue from a range of business activities that are linked to social or environmental harm.

The exclusion of companies is determined by looking at ethical options available in the market, data availability on revenue sources, and activities that can be viewed as ‘unethical’.

The current exclusions include:

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How MSCI calculates the climate ratings

After the excluded companies have been removed from the universe of available investments, we use data and scores supplied by MSCI – an investment research company – to adjust the amount invested in each of the remaining businesses.

MSCI employs hundreds of full-time analysts who conduct detailed research into companies’ annual reporting, ESG and climate policies, company carbon emissions, sources of revenue, and projections of climate-related risk into the future.

They use a wide range of sources to collect this data – from the companies’ own reports, government publications, scientific research, and reports from international institutions like the United Nations and World Bank. Where data is unavailable, analysts use sophisticated estimation models.

MSCI rates companies on a variety of factors, including the degree of climate risk associated with their business as well as how they are managing those risks. Companies will also be scored on their ability to access climate opportunities, eg, clean technology and renewables.

This data then feeds into scoring methodologies that rank companies on their perceived ability to transition to a low-carbon economy, the risks and opportunities associated with a 1.5°C scenario, the companies’ projected emissions, and their allocation of the remaining global emissions budget. MSCI monitors companies on an ongoing basis, including daily monitoring of controversies and governance events. New information is reflected in weekly reports, and significant changes to scores can result in the company being reviewed and the rating changing. Companies receive an in-depth review at the very least annually.

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How MSCI uses these ratings to change the make-up of the Ethical Fund

The amount invested in each company will be increased or decreased based on its climate score and emissions.

Therefore, more money is invested in those with high and improving scores and lower exposure to climate risk.

This gives incentives for companies to improve their activities and attempts to reduce the risk climate change may have on your pension. Based on the example above, if Apple was rated highly on its potential to transition to net zero and had plans and targets in place to do that, it might have its share of the fund increased from 4% to 5%.

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Different types of ESG, ethical and impact investing

Ethical investment is a broad topic with a wide range of potential investment styles potentially offered as ethical, such as:

• Impact investing – investing in companies because they have specific ESG benefits, such as solar power producers.
• Positive screening – creating a concentrated fund that only invests in the highest-scoring companies.
• Negative screening – excluding specific companies or entire industries.

Negative screening is generally the most popular form of ethical investing because it diverts money away from companies and industries that are considered controversial.

At The People’s Pension, we think it’s vitally important to provide a good quality, low-cost scheme for all of our 6m+ members.

As part of this, we offer a focused, well-governed fund range that we hope is able to meet the needs of the majority of our members.

When deciding which funds to make available within the Scheme’s fund range, we must examine both the expenses to our members and the value that each fund offers. As well as the expected performance and risks associated with the fund, a further challenge we face is that with millions of members, trying to offer investments that can meet all members’ personal requirements within the fund governance framework is difficult.

The necessity for a fund to diversify across various industry sectors and geographic regions means that it may include investments in companies that some members might not support.