Key Findings

• Environmental changes throughout the remainder of the 21st century will undoubtedly influence economic trends. Both physical and transition climate change risks have potential consequences for long-term investors. However, precise estimates of these risks are not available.
• To assess the top-down, cross-asset impact of climate change for strategic asset allocation, we consider both optimistic and pessimistic scenarios.
  • The optimistic scenario assumes that signatory countries will adhere to the Paris Agreement and that those goals will be achieved. While physical risks are more muted in this scenario, some transition costs and risks would be incurred.
  • The pessimistic scenario assumes that no mitigating policy or societal changes take place—CO2 emissions will nearly double from their current levels by 2050 and continue to rise thereafter. While transition costs and risks are small in this scenario, physical risks and costs would be material.
• Our top-down analysis suggests that growth-oriented assets, such as equities, would be directly impacted by climate change. As such, they would decline in the pessimistic scenario. This impact is likely to vary significantly across countries, with the most sizable impact expected in certain emerging markets.
• Inflation and rates-oriented assets have less clear top-down implications. While central banks increasingly recognize that climate change can be a major source of systemic financial risk, the impact of such changes is uncertain, with forces pulling in different directions. We find that the impact on bonds, REITs and commodities is likely to be more localized at the micro level of individual securities, rather than at the asset-class level.
• Using these strategic return expectations, a top-down climate risk-aware portfolio would tilt away from regions and assets that are expected to be adversely affected for better risk-adjusted returns.
• In our globally integrated world of cross-border revenue and supply chain links, we believe that combining both bottom-up and top-down views of the economic impacts of climate change is critical, as this provides the best opportunity for desired portfolio outcomes.