Aligning financial activities with achieving net zero
Delivering strong risk adjusted returns clearly is the central objective for asset owners - when you're investing someone’s pension, they’re relying on the returns to enjoy a comfortable dotage. But, continues Carsten, asset owners are increasingly expanding their objectives beyond financial returns to also include aligning their capital with sustainable outcomes if this is a goal of theirs.
“The net zero movement is a prime example of institutions saying, in addition to financial goals, can we also align our activities with the transition of the global economy to net zero emissions?“
The challenge, says Carsten, is how to achieve this alignment at scale in a manner that is authentic to your way of investing and in a way that still delivers great returns. Not just in a single portfolio, but across institutional size investment portfolios too.
Bridgewater’s sustainable investing journey
Bridgewater began their sustainable investing journey with a singular goal: Of course, great risk adjusted returns, but they also wanted to find a way to balance that with the additional objective of aligning capital with sustainable outcomes.
And the team realized, in order to achieve that goal, they’d have to modify much of the investment process, from portfolio construction to the security selection.
“It started with a research question saying, would it be possible to develop a portfolio that had similar returns to an unconstrained portfolio, while being substantially more sustainable? The more we looked at the challenge, the more we thought that this is an area where we might be able to make an important contribution.”
Realizing this approach could help their clients, Bridgewater decided to formalize the effort. Today, Bridgewater has a dedicated team of senior investors who leverage the full power of Bridgewater as an analytical platform deployed towards the challenge.
Sustainability – from macro to individual players
“There are a number of sustainability considerations that are very important for the world, but matter little for the financial performance of a typical portfolio. And then there are sustainability related themes that could affect the financial performance of a portfolio”
As a macro investor, Bridgewater’s goal is to deeply understand how the world economy works, and then to translate that understanding into systematic logic that is powering all of Bridgewater’s portfolios. So, one of the first questions the team at Bridgewater asked themselves was, how sustainability interacts with their existing understanding.
“For example, if the world is transitioning towards Net Zero”, says Carsten, “how would that transition actually come about? What would be the cause-effect linkages that would cause the world to transition in that way, and what would that mean in terms of how we invest? For example, what might that mean for the demand and supply of different commodities and have we captured that adequately”.
“We start with the objective of understanding how these dynamics might impact the financial performance of a portfolio. But in our sustainable portfolios we go a step further since the objective in those portfolios is to deliberately direct capital towards sustainable entities. Therefore, we need to understand how the activities of an individual security, say a company, contribute to a sustainable outcome. That’s a different question for which we had to build out a whole new analytical system.”
“So we've taken our fundamental and systematic research approach that we have built up over the past four decades, and we've applied that to sustainability.”
Do sustainable portfolios deliver the same returns? “The very short answer is we think we can create similar returns. But typically, the sustainable portfolios would be slightly less diversified, because the universe of sustainable companies is smaller than the global universe.”
Reflections on a sustainable future
“What I hope the sustainable future looks like, is really what's laid out in the Sustainable Development Goals. The Sustainable Development Goals are the most holistic picture of what it means for the world to be sustainable across environmental and social areas.”
But one of the key components of the SDGs, says Carsten, is the notion of not overly focusing on one dimension and of embracing the inner contradictions. For example, in the SDGs, there is an inherent contradiction between poverty alleviation, energy transition, and sometimes health. There are certain things that will be good for one yet will be bad for the other. But that's just reality,
Carsten’s advice to the younger generation
Early in your career, suggests Carsten, try to acquire certain technical skills, whether that’s as an engineer, lawyer, or investor. Something where you can learn the tools of the trade, so that once you’ve learned it, and you’ve mastered it, you can use those skills to pursue your true passion.
“Start with a strong technical foundation, and then as fast as possible, run towards the things that you're passionate about.”