Rodrigo Dupleich, Managing Director - Head of Systematic Strategies at UBS Asset Management.

Andrew Putwain: What tools do you use for looking at carbon exposures and areas for disclosures?

Rodrigo Dupleich: We collaborate with multiple teams, using technology that uploads carbon emissions data for companies. We make the data available within our investment trading tools, and we analyse the quality and integrity of the data.

Over time, we’ve seen an increase in the quality of data in developed markets. Nowadays, for Scope 1 and 2 carbon intensity, if you compare one data provider to another, the information is similar due to better disclosure data.

Methodology has also improved over time, but if you look at small caps or emerging markets – where disclosure is much lower – you see more discrepancies in the data. For example, there has recently been the incorporation of Scope 3 – supply chain, emissions-related data – and providers have information pointing in different directions.

However, we have seen an improvement in data disclosure and in our IT systems. We now have ways to analyse and check data integrity.

Andrew: How do you deal with laggards in your portfolio construction?

Rodrigo: When we analyse climate portfolios, we take data points that enable us to approximate how a company is moving their business towards the low-carbon economy.

This comes from mitigation metrics we analyse – such as carbon intensity, which is carbon divided by a company’s revenue – and then we can compare companies.

We also consider the substitution that the global economy needs to make when moving from fossil fuels to renewable energy or other climate technologies. We consider the transition matrix – companies reducing their carbon footprints and disclosing progress on net zero targets to align with a 1.5°C climate scenario.

In some cases, companies will be leaders compared, but we also find laggards. We tend to be underweight on those companies, and we have an engagement programme that moves in tandem with portfolio construction strategy.

Andrew: How do you balance risk management in your climate strategy within portfolios?

Rodrigo: It's about balancing the trade-offs and the risk.

When building a portfolio there will be a level of relative risk to the benchmark, but, at the same time, if you incorporate climate into a portfolio, there are climate ambitions you want to achieve. You want to be more ambitious, so you take more risk.

"In the equity portfolio, there’s exposure to stock-specific factors in those industry countries.

Our approach is to manage these known sources of risk alongside climate risk."

We’re conservative in our portfolio construction because we want to find the tracking error that is efficient for this given set of climate ambitions.

We consider other risks inherent to an equity or corporate bonds portfolio. In the equity portfolio, there’s exposure to stock-specific factors in those industry countries. Our approach is to manage these known sources of risk alongside climate risk.

Andrew: How do you manage the different sources of risk?

Rodrigo: We build up a portfolio that will take a certain level of relative risk on the strategy. Because we want to reduce the portfolio’s carbon footprint, we want to increase exposure to climate technologies, renewable energy, or companies that are reducing their footprint and providing carbon data.

Then we look at the stock-specific risk, industry sector risk, and country exposure risk alongside things like liquidity.

Andrew: How do you monitor risk-return aspects of the portfolios?

Rodrigo: We have different tools within the investment teams. We have themes that focus on independently calculating the risk or analysing the performance of our strategies and we discuss with stakeholders what our perception is on the risk-return profile of our strategies.

Andrew: What are your strategies around active stewardship and engagement?

Rodrigo: Reducing a portfolio’s carbon footprint has many positive features such as managing long-term risk, which, as investors, we should address. However, it’s also an exercise in portfolio engineering; for example, if you reduce the carbon footprint you reduce your oil and gas exposure.

However, you still need to ask about the real-world outcomes. Many gas, oil, and utility companies might not monitor what the investment community is doing with their investments. Within that context, we have an engagement and voting programme; we’ve run the programme for as long as we’ve been developing these strategies, and, in general, we see a positive outcome.

Andrew: How do you deal with tracking errors?

Rodrigo: We have research programmes that we work on to find a sweet spot between balancing the climate ambitions and managing the risk that an equity portfolio can have.

We tend to diversify the portfolios significantly as well. Over the years we have seen the market volatility that came from COVID, or more recently from the energy price spike, and our portfolios have moved within expectations because of that.

Andrew: What are the evolutions of your strategies in the industry?

Rodrigo: We developed climate strategies several years ago and have since seen absorption within the investment community due to a need to manage climate risk improvement strategies.

"We’ve seen that investors are more informed and feel more comfortable bringing

in sustainable aspects or ambitions into their portfolios."

At the same time, data and disclosure has significantly improved. Companies that were not disclosing carbon reduction data and targets now use the science-based targets platform or the initiative and are officially disclosing. They have a framework to say, ‘we are going to be a 1.5°C-plan compliant company in X number of years’.

There has been an evolution in private markets data. We keep this in mind so we can evolve our strategies. We’ve also seen that investors are more informed and feel more comfortable bringing in sustainable aspects or ambitions into their portfolios.

Andrew: Where do you see data heading in this area?

Rodrigo: There are challenges in aligning methodologies in certain areas – one being how you evaluate the transition risks of a portfolio. We have our methodology, but as the investment world develops we’ll see more convergence on different ideas, and there will be fewer discrepancies across methodologies or different data providers as a result.

The same goes with physical risks. It’s not an easy problem to tackle: you need to identify and measure climate hazards that result from physical assets. From a modelling point of view, it’s a challenge. However, we can do more to improve the methodologies because we should be able to measure the physical risks a company faces.

The last area is disclosure; more companies are using platforms with science-based targets that can monitor progress, and there’s better information on how companies are aligning business with these targets.

Andrew: Can you discuss the differences between the E, S, and G in terms of your strategies? Where and how do you look for details around investment opportunities?

Rodrigo: The questions reflects how the investment community has prioritised certain issues. The ‘E’ has been the landing point in integrating sustainability into strategies. Within the EU, you have companies’ climate or carbon profiles, which has been used as the starting point.

Within the ‘E’ dimension, we have recently seen the addition of biodiversity and waste management – going beyond climate to the general impact on the environment by human beings and vice versa.

"Companies that are well managed or that are profitable from an equity risk premium

perspective have a positive correlation to high governance scores."

There’s now a level of understanding on how to incorporate the ‘E’ into the strategy and we have seen, in our discussions with clients, that the impetus is now moving to the ‘S’ and ‘G’ components.

When it comes to the social component, we aim to incorporate it into our climate transition strategies. There have been academic papers emphasising the transition to low carbon as the most important part; however, it needs to be done in a way that mitigates potential social costs. We’ve been aiming to tackle these aspects together, by combining the ‘S’ and ‘E’ in our strategies.

On the governance side, it’s interesting to see how ‘G’ correlates with quality companies. For instance, companies that are well managed or that are profitable from an equity risk premium perspective have a positive correlation to high governance scores.

It’s the same with climate; companies that tend to score well on governance metrics are more likely to disclose targets under the Science Based Targets initiative (SBTi).

Andrew: What are your thoughts on Scope 1, 2, and 3?

Rodrigo: The industry feels more comfortable using Scope 1 and 2. Because of disclosure increases, there have been data quality increases – especially in developed markets. We still see challenges in emerging markets or with small caps, but there is a level of convergence overall. It does tend to be limited in that it doesn’t consider the supply chain emissions.

This brings us to Scope 3, which is critical when it comes to downstream emissions. This is important for the auto sector because you need to measure emissions from auto fleets. Tesla is an example; the penetration of electric cars is much deeper than in other auto companies, so you can use Scope 3 to differentiate that fleet of cars in the auto sector or the oil and gas sector. You need Scope 3 to be able to determine which companies are leaders or laggards from an emissions perspective.

When comparing data providers, the correlation tends to be low. The items you can disclose within Scope 3 change, and some companies select certain items while other companies select different items. Discrepancies are more prevalent than when you’re dealing with Scope 1 and 2.

One still needs to be careful when integrating this data into portfolios, though; you have to accept the uncertainty it can bring.

"It’s good that regulation brings minimum standards on how to incorporate sustainable

aspects into strategies and how to report or disclose portfolio exposures."

Andrew: Can you discuss processes around regulation and frameworks?

Rodrigo: We’ve learned how to collaborate on frameworks over the years. My team works with our sustainable and impact team, tech team, and data scientists on ways that allow for investment strategies that incorporate sustainability from a methodological point of view.

We learned that other divisions within UBS doing the same tasks are facing similar challenges and have similar needs. Discussing with these teams helps us enhance our methodologies and innovate further.

It’s good that regulation brings minimum standards on how to incorporate sustainable aspects into strategies and how to report or disclose portfolio exposures. Regulation is welcome because it sets a bar on how to manage these types of portfolios.

At the same time, we have seen that regulators are developing frameworks that can be similar or different depending on the jurisdiction or region. This presents a challenge, but we have teams that help us to understand regulatory changes and interpretation so we can better contextualise our frameworks and make sure they’re aligned.

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