Broken Models? Economics and Ecosystem Services

1. Broken Models? Economics and Ecosystem Services A collaborative research project between Rick Stathers Head of Responsible Investment Schroders May 2013 Neil Brown Investment Manager Alliance Trust Investment Ashim Paun ESG Investment Analyst Newton Investment Management

2. Contents * Background to Responsible Investment Integration of ESG Broken Models Broken Models| May 2013

3. A Brief History of ESG… Broken Models| May 2013

4. Drivers behind RI Client Demand – UN Principles of Responsible Investment Source: Annual Report of the PRI initiative 2012, UNPRI Launched in 2006 Set of 6 Principles covering: • Integration of ESG analysis intoinvestment process(e.g. idea generation, portfolio construction) • Promoting ESG disclosure amongst entities invested in • Reporting on progress towards implementing these principles(see appendix for full list of principles and Schroders compliance with them) US$31tr AUM signed up 1,111 signatories (Schroders signed in 2007) Broken Models | May 2013

5. Impacts of different RI strategies on portfolio diversification Source: Socially Responsible Investment, A Global Revolution by Russell Sparks, Schroders 2008 High Thematic Investments ESG Integration & Engagement Degree of ESG Integration Screening High Low Degree of portfolio diversification Broken Models| May 2013

6. Integration Linking ESG issues to valuation Source: Annual Report of the PRI initiative 2012, UNPRI • MATERIAL ESG ISSUES • Demand for efficient products – SALES • Taxes reduce demand – SALES • Droughts raise costs of raw materials – COGS • Marketing spend needed to re brand – SG&A • New technology needed to compete – R&D Broken Models | May 2013

7. Integrating ESG analysis into equity analysis The 5 stages of stock review Broken Models| May 2013

8. Ecosystem service questions for economists How do you incorporate a consideration of ecosystem services into your economic models? What impact do you estimate the current change in these ecosystem services is having on global economic performance, in terms of output, inflation and other metrics? If you incorporate ecosystem services into your models, what is the valuation methodology you use where there is currently no market value for specific environmental goods or services? If you have incorporated a consideration of the change in ecosystem services into your models, what are the results for your short and long-term (40 year) models? What are your expectations of the economic response to ecosystem service changes in terms of market volatility, policy shifts and technological innovation? If you have not addressed these factors in your models, please could you explain why not? Broken Models| May 2013

9. Ecosystem service- economist survey Responses 2011 “this subject is too big for us to even contemplate” “economic growth in the emerging markets will be inflationary on commodity prices, but externalities are typically underweighted” “these factors are already integrated into our outlook” Broken Models| May 2013

10. Ecosystem service – economist survey Responses 2012 All acknowledged ecosystem service change would have economic impact Reluctance to put price on ecosystem services Preferred to focus on adaptation costs than mitigation All acknowledged limitations of GDP Need for more data Client demands are generally too short term Broken Models| May 2013