PI Partnership – Aon Jennifer O’Neill is an associate partner at Aon THE DIVESTMENT DILEMMA


The crossroads between divestment and engagement is an important con- sideration for pension scheme investors as they seek to understand and better monitor their climate risk strategy and mitigate portfolio risks. However, the decision to divest, or not, is often com- plex and multifaceted.


Many investors see a key role for effective engagement with investment managers and companies, to promote and effect the changes they want to see in the transition to a low-carbon economy - a familiar counter to divestment is that ‘you cannot influence what you do not own’. However, some feel that the risks of holding assets at risk from broader structural trends, for example in the energy sector, may be too great.


In the case of the energy sector, for exam- ple, the perception among investors seek- ing to divest is often that many firms’ response to the climate crisis has been inadequate. As a result, the physical out- comes of climate change, and the legisla- tive impetus to address the crisis, puts those firms at risk of valuation impair- ments and stranded


assets. Divesting


from these assets and denying these firms capital, it is argued, may force a reassess- ment of their priorities and future strategy – to better support the transition to a low- carbon economy and to improve their resilience to climate change risks. BBy


contrast, investors who actively


engage - whether directly, or through their appointed investment managers -


seek to add value by positively influenc- ing future outcomes for the firms in which they are invested: by retaining investment holdings, they have the potential to influence and support com- panies in the transition to a low carbon economy. Recent shareholder votes at prominent energy companies’ Annual General Meetings have brought this per- spective into focus. Some supporters of engagement-led approaches are critical of divestment for its inability to bring about meaningful corporate action on climate change, pri- marily since the amounts divested typically account only for a small propor- tion of targeted companies’ value. Their arguments were bolstered by a 2020 study in which scholars at Harvard, Chi- cago and Trento universities found that engagement-led approaches yielded greater success than divestment-led approaches in driving corporate outcomes. Investors’ motivations for divestment are varied but are generally driven by a desire to address the climate crisis, to mitigate climate change risk in their portfolios, to avoid reputational and stranded asset risks and to respond to stakeholder pres- sure – whether from pension scheme members, the sponsoring employer or external organisations. There is also increasing concern among some inves- tors that certain firms are ‘greenwashing’ their credentials – for example, by mak- ing public statements surrounding net- zero targets while making little meaning- ful change to their corporate operations and behaviour.


These motivations are not mutually exclusive and more than one may apply at any given time – adding complexity to the decision to divest or not. As with any stra- tegic investment decision, it is important to be clear on the objectives a scheme want to achieve – divestment is no different. Several important considerations for any divestment strategy include: – Which activities should be targeted –


Issue 104 | June 2021 | portfolio institutional | 27


extraction of raw materials only? Own- ership of fossil fuel reserves? Refining products? Distribution of fossil fuel products?


– Should utility firms be excluded, given their exposure to energy pricing? If a ‘reserves-focused’ approach is used, this is unlikely to exclude many utili- ties, which are the largest direct users of fossil fuels.


– How significant are fossil fuels to the business, as a proportion of revenue or operations? Is it feasible to gradually reduce portfolio exposures, through establishing a baseline and setting appropriate time-bound targets? Engagement considerations are also important to divestment decision-making – investors should reflect on how they or their managers are engaging to deter- mine the effectiveness of their approach. Ultimately, active engagement provides an effective mechanism to measure the progress of desired change, better sup- porting investors in decisions to divest from


investments successful.


Aon’s responsible investment team has worked with more than 100 pension scheme boards to identify priorities, investment beliefs and to develop and implement engage- ment and divestment strategies. To learn more, contact Jennifer via talktous@aon.com


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