Institutional investors are increasingly focusing on aligning portfolios with net zero emissions targets. Here, we present two strategies – the Net Zero Achieving, Aligned, and Aligning (NZ:AAA) screens and the Paris Aligned Benchmark (PAB) rules framework – and their role in building equity portfolios.
We are proud to report that for its new publication ‘Investment Innovations Toward Achieving Net Zero’, the CFA Institute Research and Policy Centre has published our research paper “Aligning Investments with the Paris Agreement: Frameworks for a Net-Zero Pathway”1 in the first of a series of online releases of research by net zero thought leaders. Below, we present a summary of our paper.
To assess the impact on the expected risk and returns of each framework, we considered portfolios designed to replicate market capitalisation portfolios, with the smallest possible tracking error against them while meeting the net zero criteria.
Such portfolios can be useful for many investors, in particular large investors who tend set limits on the amount of tracking error risk they can accept relative to the market cap portfolio.
Below, we give the primary features of the frameworks. The full report describes in detail how each framework aligns with the recommendations of organisations seeking to decarbonise the economy and achieve net zero by 2050 and beyond.
NZ:AAA – Achieving, Aligned, Aligning screens
In this approach, we rank companies as ‘Achieving’, ‘Aligned’ and ‘Aligning’ with science-based decarbonisation pathways or contributing with solutions towards the energy transition and the decarbonisation of the real economy.
- The Achieving screen identifies companies committed to net zero greenhouse emissions by 2050 and beyond, with a carbon performance already at or close to their sector’s net zero by 2050 sector trajectory, and/or selling products/services associated significantly with climate mitigation
- The Aligned screen identifies companies committed to net zero emissions by 2050 and beyond, with credible carbon reduction targets assessed as aligned with a global temperature increase of less than 1.5°C, and/or selling products/ services sufficiently aligned with this aim
- The Aligning screen identifies companies with credible carbon reduction targets assessed as aligned with a global temperature increase of less than 2.0°C that may be good candidates for engagement and stewardship encouraging them to take further steps.
At present, only a few companies pass the Achieving screen because of their contribution towards climate solutions. They are mostly from the utilities, real estate, information technology, industrials and consumer discretionary sectors.
Percentage of companies passing one of the three screens
| Index | Percentage of companies passing one of the three screens | Market capitalisation percentage |
| MSCI ACWI | 37% | 61% |
| MSCI Europe | 71% | 79% |
Percentage of companies passing one of the two most constraining screens
| Index | Percentage of companies passing either the Achieving or the Aligned screens | Market capitalisation percentage |
| MSCI ACWI | 23% | 42% |
| MSCI Europe | 53% | 61% |
Replicating market cap indices with minimum tracking error portfolios after screening stocks
| Index | Tracking error (Achieving and Aligned only) | Tracking error (also including Aligning) |
| MSCI ACWI | 1.3% | 0.8% |
| MSCI Europe | 1.3% | 0.7% |
The implementation of the BNPP AM NZ:AAA framework described in the paper meets the recommendations of the UN High Level Expert Group (HLEG) on the Net-Zero Emissions Commitments of Non-State Entities and the guidance from the Net Zero Asset Owners Alliance (NZAOA).
Paris-aligned benchmarks (PAB)
The PAB framework sets standards for low-carbon benchmarks in the EU, which can be used for exchange-traded-funds (ETFs), index funds or as benchmarks for actively managed funds.
It focuses on reducing the carbon intensity of portfolios relative to their respective market cap index by at least 50% and establishing a path for further reductions each year until 2050 while imposing constraints to remain investing in high-impact industries.
PAB also imposes a few explicit company exclusions which currently concern 14% of the stocks in the MSCI ACWI index and 7% of the stocks in the MSCI Europe, or 11% in market cap terms for the MSCI ACWI and 10% for the MSCI Europe.
Replicating market cap indices with minimum tracking error portfolios while imposing all PAB constraints
| Index | Tracking error |
| MSCI ACWI | 0.4% |
| MSCI Europe | 0.8% |
Relative to approaches such as our NZ:AAA, PAB portfolios have a much lower carbon intensity.
However, the PAB rulebook’s strict requirements for decarbonisation and an emissions trajectory do reduce the room for successful engagement and stewardship with the bigger emitters in high-impact industries. Neither is there enough room to invest in higher-emissions companies that may be contributing to climate solutions.
NZAOA members may find themselves at odds with the PAB’s rapid decarbonisation approach if they want to be aligned with the organisation’s principle of implementing a framework allowing for different speeds of decarbonisation across sectors and geographies.
The future of net zero investing
We believe institutional investors can play a crucial role in driving the transition to net zero emissions.
In practice, investors are likely to combine a variety of approaches to align their portfolios with net zero, drawing on the frameworks discussed in this paper, coupled with stewardship (voting, company engagement and public policy advocacy).
As a signatory to the Net Zero Asset Manager initiative, BNP Paribas Asset Management is committed to partnering with investors to help them implement net zero alignment strategies in line with their investment objectives.
[1] Authors: Raul Leote de Carvalho, Deputy Head of Quant Research; Jane Ambachtsheer, Global Head of Sustainability; Alexander Bernhardt, Global Head of Sustainability Research; Thibaud Clisson, Climate Change Lead; Henry Morgan, ESG Quant Analyst; Guillaume Kovarcik, Quant Analyst; Francois Soupe, Co-Head of Quant Research
