Insight Article Desktop Banner
Global Equity Observer
March 17, 2020

Financing Climate Change

Insight Video Mobile Banner
March 17, 2020

Financing Climate Change

Global Equity Observer

Financing Climate Change

Share Icon

March 17, 2020


Bank regulation may force the economy to shift towards a less carbon intensive model more quickly than expected. Some enterprises will flourish in this environment and others will fade, potentially leading to material shifts within the indices. As the market does not currently price for this, a solidly embedded environmental, social and governance (ESG) approach, as we believe we have in our strategies, may become a crucial differentiator for long-term performance.

If Google Trends is to be believed, interest in ESG investing has increased tenfold since 2017. In Europe, the share of ESG funds has almost doubled to 7%.1 This rapid development has overshadowed another major ESG–driven shift in financial markets, one that may have an even more significant and more imminent impact on the behaviour of companies and their share prices.

Banks will have to integrate ESG risks in general, and climate change risk in particular, into their risk management process”

In December 2019 the European Commission announced its ‘Green Deal’. The Commission states that ‘the private sector will be key to financing the green transition’, and that ‘long-term signals are needed to direct financial and capital flows to green investment and to avoid stranded assets’.2 Amongst other things they say that ‘climate and environmental risks will be managed and integrated into the financial system. This means better integrating such risks into the European Union (EU) prudential framework and assessing the suitability of the existing capital requirements for green assets.

When put simply, what these cryptic words mean is that banks will have to integrate ESG risk in general, and climate change risk in particular, into their risk management processes. For example, banks will have to assess the flood risk of a property in their mortgage risk assessment, under the assumption that worldwide temperatures rise by 2°, 3° or 4° centigrade. Even more difficult than these physical risks are the transitional risks, such as the risk that certain carbon intensive assets such as coal-fired power stations, cement plants or gas pipelines, have to be written down due to regulatory change. On the flipside, migrating towards a carbon neutral economy by 2050 will require material investments, most of which relates to reducing carbon emissions from buildings (e.g., insulation, heating/cooling, construction materials etc.).3 In the recent calculation based on the EU taxonomy of environmentally sustainable activities, the investment gap is about €270 billion annually or €2.7 trillion over the next 10 years, equal to 15% of EU GDP.

The European Banking Authority is developing a dedicated climate change stress test to quantify vulnerability to climate change risk”

The European Banking Authority (EBA), which manages the banking stress test in Europe, will run a sensitivity analysis for climate change with a number of volunteer banks in the second half of 2020. The EBA will develop a dedicated climate change stress test to quantify the vulnerability to climate change risk4 at a not yet specified date. Christine Lagarde recently suggested this could be as early as 2021. The stress test is likely to feed into the assessment of the individual banks’ capital requirements set by the regulators, namely the European Central Bank.

Europe is not alone. The Network for Greening the Financial System (NGFS) was founded in December 2017. This global network of supervisors and central banks includes amongst others the People’s Bank of China, the Bank of Japan and the Bank of England. It aims to mobilise the financial system to manage climate and environment-related risks and scale up green finance to support the transition towards a sustainable economy. In its first comprehensive report, published in April 2019, the NGFS called for collective action and reasserted climate change as a source of financial risk.

As banks recognise the physical and transitional risks in their calculations for probability of default, valuation of collateral and capital ratios, they will have to materially increase capital allocations to ‘brown’ loans (i.e. non-green loans). At the very least this would lead to an increase in the pricing for these facilities, but given risk limits and the impact on the overall capital ratio, it may mean that banks will simply have to refuse credit entirely. For instance, there are already a number of banks who have a blanket ban on the funding of coal mining and coal-based electricity generation.

The Commission has recently published a further draft of its Taxonomy, which is a detailed list of economic activities that help mitigate carbon emissions. Going forward there are suggestions to apply capital relief to those activities considered helpful while applying higher capital requirements on activities considered detrimental. If implemented this would create a double whammy for the financing of ‘brown’ activities as the banks would apply both higher risk weighted assets and higher capital ratios to these loans. Such a direct intervention in capital flows has more than a faint echo of the dirigiste planned economy models of the 1970s.

Credit tends to be a more immediate driver of company behaviour than equity. Companies that cannot fund their projects will have to change course.”

So why is that relevant for our portfolios which have either no position in banks at all or usually a material underweight? The point is that credit tends to be a much more immediate driver of company behaviour than equity. As companies only rarely tap the equity markets to fund their strategic priorities, CEOs can, and many do, ignore ESG-focused equity investors for a long time, in particular when more and more of their shareholders are passive funds. It is very different when it comes to loans and bonds however, meaning companies that cannot fund their projects at a reasonable price or worse, cannot access credit at all, will have to change course.

With credit capital drying up for carbon-intensive industries and flows directed towards activities that either generate positive carbon outcomes or are carbon neutral, earnings and capital returns will shift, leading to a rebalancing of the economy and the equity indices. Staying abreast of these developments requires an active and ESG-focused approach.


1 Source: Bank of America

2 Source: European Commission, ‘The European Green Deal’, 12 November 2019, available at

3 Source: EU Technical Expert Group on Sustainable Finance, ‘Taxonomy Technical Report’, June 2019, available at

4 Source: EBA Action Plan on Sustainable Finance, 6 December 2019



There is no assurance that a portfolio will achieve its investment objective. Portfolios are subject to market risk, which is the possibility that the market value of securities owned by the portfolio will decline. Accordingly, you can lose money investing in this strategy. Please be aware that this strategy may be subject to certain additional risks. Changes in the worldwide economy, consumer spending, competition, demographics and consumer preferences, government regulation and economic conditions may adversely affect global franchise companies and may negatively impact the strategy to a greater extent than if the strategy's assets were invested in a wider variety of companies. In general, equity securities' values also fluctuate in response to activities specific to a company. Investments foreign markets entail special risks such as currency, political, economic, and market risks. Stocks of small-capitalsation companies carry special risks, such as limited product lines, markets and financial resources, and greater market volatility than securities of larger, more established companies. The risks of investing in emerging market countries are greater than risks associated with investments in foreign developed markets. Non-diversified portfolios often invest in a more limited number of issuers. As such, changes in the financial condition or market value of a single issuer may cause greater volatility. Option writing strategy. Writing call options involves the risk that the Portfolio may be required to sell the underlying security or instrument (or settle in cash an amount of equal value) at a disadvantageous price or below the market price of such underlying security or instrument, at the time the option is exercised. As the writer of a call option, the Portfolio forgoes, during the option's life, the opportunity to profit from increases in the market value of the underlying security or instrument covering the option above the sum of the premium and the exercise price, but retains the risk of loss should the price of the underlying security or instrument decline. Additionally, the Portfolio's call option writing strategy may not fully protect it against declines in the value of the market. There are special risks associated with uncovered option writing which expose the Portfolio to potentially significant loss.

Head of International Equity Team
Managing Director
International Equity Team
Executive Director
International Equity Team


This communication is only intended for and will only be distributed to persons resident in jurisdictions where such distribution or availability would not be contrary to local laws or regulations.

Ireland: Morgan Stanley Investment Management (Ireland) Limited. Registered Office: The Observatory, 7-11 Sir John Rogerson’s, Quay, Dublin 2, Ireland. Registered in Ireland under company number 616662. Regulated by the Central Bank of Ireland. United Kingdom: Morgan Stanley Investment Management Limited is authorised and regulated by the Financial Conduct Authority. Registered in England. Registered No. 1981121. Registered Office: 25 Cabot Square, Canary Wharf, London E14 4QA. Dubai: Morgan Stanley Investment Management Limited (Representative Office, Unit Precinct 3-7th Floor-Unit 701 and 702, Level 7, Gate Precinct Building 3, Dubai International Financial Centre, Dubai, 506501, United Arab Emirates. Telephone: +97 (0)14 709 7158). Germany: Morgan Stanley Investment Management Limited Niederlassung Deutschland Junghofstrasse 13-15 60311 Frankfurt Deutschland (Gattung: Zweigniederlassung (FDI) gem. § 53b KWG). Italy: Morgan Stanley Investment Management Limited, Milan Branch (Sede Secondaria di Milano) is a branch of Morgan Stanley Investment Management Limited, a company registered in the UK, authorised and regulated by the Financial Conduct Authority (FCA), and whose registered office is at 25 Cabot Square, Canary Wharf, London, E14 4QA. Morgan Stanley Investment Management Limited Milan Branch (Sede Secondaria di Milano) with seat in Palazzo Serbelloni Corso Venezia, 16 20121 Milano, Italy, is registered in Italy with company number and VAT number 08829360968. The Netherlands: Morgan Stanley Investment Management, Rembrandt Tower, 11th Floor Amstelplein 1 1096HA, Netherlands. Telephone: 31 2-0462-1300. Morgan Stanley Investment Management is a branch office of Morgan Stanley Investment Management Limited. Morgan Stanley Investment Management Limited is authorised and regulated by the Financial Conduct Authority in the United Kingdom. Switzerland: Morgan Stanley & Co. International plc, London, Zurich Branch Authorised and regulated by the Eidgenössische Finanzmarktaufsicht (“FINMA”). Registered with the Register of Commerce Zurich CHE-115.415.770. Registered Office: Beethovenstrasse 33, 8002 Zurich, Switzerland, Telephone +41 (0) 44 588 1000. Facsimile Fax: +41(0) 44 588 1074.


A separately managed account may not be suitable for all investors. Separate accounts managed according to the Strategy include a number of securities and will not necessarily track the performance of any index. Please consider the investment objectives, risks and fees of the Strategy carefully before investing. A minimum asset level is required. For important information about the investment manager, please refer to Form ADV Part 2.

Please consider the investment objectives, risks, charges and expenses of the funds carefully before investing. The prospectuses contain this and other information about the funds. To obtain a prospectus please download one at or call 1-800-548-7786. Please read the prospectus carefully before investing.

Morgan Stanley Distribution, Inc. serves as the distributor for Morgan Stanley funds.


Hong Kong: This document has been issued by Morgan Stanley Asia Limited for use in Hong Kong and shall only be made available to “professional investors” as defined under the Securities and Futures Ordinance of Hong Kong (Cap 571). The contents of this document have not been reviewed nor approved by any regulatory authority including the Securities and Futures Commission in Hong Kong. Accordingly, save where an exemption is available under the relevant law, this document shall not be issued, circulated, distributed, directed at, or made available to, the public in Hong Kong. Singapore: This document should not be considered to be the subject of an invitation for subscription or purchase, whether directly or indirectly, to the public or any member of the public in Singapore other than (i) to an institutional investor under section 304 of the Securities and Futures Act, Chapter 289 of Singapore (“SFA”); (ii) to a “relevant person” (which includes an accredited investor) pursuant to section 305 of the SFA, and such distribution is in accordance with the conditions specified in section 305 of the SFA; or (iii) otherwise pursuant to, and in accordance with the conditions of, any other applicable provision of the SFA. This material has not been reviewed by the Monetary Authority of Singapore. Australia: This publication is disseminated in Australia by Morgan Stanley Investment Management (Australia) Pty Limited ACN: 122040037, AFSL No. 314182, which accept responsibility for its contents. This publication, and any access to it, is intended only for “wholesale clients” within the meaning of the Australian Corporations Act.

Japan: For professional investors, this document is circulated or distributed for informational purposes only. For those who are not professional investors, this document is provided in relation to Morgan Stanley Investment Management (Japan) Co., Ltd. (“MSIMJ”)’s business with respect to discretionary investment management agreements (“IMA”) and investment advisory agreements (“IAA”). This is not for the purpose of a recommendation or solicitation of transactions or offers any particular financial instruments. Under an IMA, with respect to management of assets of a client, the client prescribes basic management policies in advance and commissions MSIMJ to make all investment decisions based on an analysis of the value, etc. of the securities, and MSIMJ accepts such commission. The client shall delegate to MSIMJ the authorities necessary for making investment. MSIMJ exercises the delegated authorities based on investment decisions of MSIMJ, and the client shall not make individual instructions. All investment profits and losses belong to the clients; principal is not guaranteed. Please consider the investment objectives and nature of risks before investing. As an investment advisory fee for an IAA or an IMA, the amount of assets subject to the contract multiplied by a certain rate (the upper limit is 2.20% per annum (including tax)) shall be incurred in proportion to the contract period. For some strategies, a contingency fee may be incurred in addition to the fee mentioned above. Indirect charges also may be incurred, such as brokerage commissions for incorporated securities. Since these charges and expenses are different depending on a contract and other factors, MSIMJ cannot present the rates, upper limits, etc. in advance. All clients should read the Documents Provided Prior to the Conclusion of a Contract carefully before executing an agreement. This document is disseminated in Japan by MSIMJ, Registered No. 410 (Director of Kanto Local Finance Bureau (Financial Instruments Firms)), Membership: the Japan Securities Dealers Association, The Investment Trusts Association, Japan, the Japan Investment Advisers Association and the Type II Financial Instruments Firms Association.


EMEA: This marketing communication has been issued by Morgan Stanley Investment Management Limited (“MSIM”). Authorised and regulated by the Financial Conduct Authority. Registered in England No. 1981121. Registered Office: 25 Cabot Square, Canary Wharf, London E14 4QA.

There is no guarantee that any investment strategy will work under all market conditions, and each investor should evaluate their ability to invest for the long-term, especially during periods of downturn in the market. Prior to investing, investors should carefully review the strategy’s / product’s relevant offering document. There are important differences in how the strategy is carried out in each of the investment vehicles.

A separately managed account may not be suitable for all investors. Separate accounts managed according to the Strategy include a number of securities and will not necessarily track the performance of any index. Please consider the investment objectives, risks and fees of the Strategy carefully before investing.

This material is a general communication, which is not impartial and has been prepared solely for informational and educational purposes and does not constitute an offer or a recommendation to buy or sell any particular security or to adopt any specific investment strategy. The information herein has not been based on a consideration of any individual investor circumstances and is not investment advice, nor should it be construed in any way as tax, accounting, legal or regulatory advice. To that end, investors should seek independent legal and financial advice, including advice as to tax consequences, before making any investment decision.

Except as otherwise indicated herein, the views and opinions expressed herein are those of the portfolio management team, are based on matters as they exist as of the date of preparation and not as of any future date, and will not be updated or otherwise revised to reflect information that subsequently becomes available or circumstances existing, or changes occurring, after the date hereof.

Forecasts and/or estimates provided herein are subject to change and may not actually come to pass. Information regarding expected market returns and market outlooks is based on the research, analysis and opinions of the authors. These conclusions are speculative in nature, may not come to pass and are not intended to predict the future performance of any specific Morgan Stanley Investment Management product.

MSIM has not authorised financial intermediaries to use and to distribute this document, unless such use and distribution is made in accordance with applicable law and regulation.

Additionally, financial intermediaries are required to satisfy themselves that the information in this document is suitable for any person to whom they provide this document in view of that person’s circumstances and purpose. MSIM shall not be liable for, and accepts no liability for, the use or misuse of this document by any such financial intermediary.

The whole or any part of this work may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without MSIM’s express written consent.

All information contained herein is proprietary and is protected under copyright law.


It is important that users read the Terms of Use before proceeding as it explains certain legal and regulatory restrictions applicable to the dissemination of information pertaining to Morgan Stanley Investment Management's investment products.

The services described on this website may not be available in all jurisdictions or to all persons. For further details, please see our Terms of Use.

Privacy & Cookies    •    Terms of Use

©  Morgan Stanley. All rights reserved.