Emerging Market Transition Finance Framework
Prudential, the largest life insurance company in the UK, releases the emerging market transition finance framework aimed at developing a transition finance approach to achieve inclusive and fair transition in emerging markets.
Prudential, as an asset owner, promises to decarbonize its investment portfolio by 2050 and is committed to playing a role in transitional financing, driving the market to re-identify and re-evaluate the value of transition assets. The emerging market transition finance framework has been certified for transition financing by the Climate Bonds Initiative.
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Importance of Emerging Market Transition Finance
The climate-related risks and opportunities in emerging markets are different from those in developed markets. Emerging markets have a smaller impact on global greenhouse gas emissions, are generally more susceptible to the physical effects of climate change, and rely more on fossil fuels to meet their development needs. At the same time, emerging markets have limited resources invested in climate action, and there are significant differences in climate action among different regions and industries. Prudential believes that in addition to providing funding for green activities, financing the transition from brown to green is crucial for emerging markets.
As an asset owner, Prudential usually does not have direct contact with the invested company, but participates in the transition plan of the invested company on behalf of the asset manager. Prudential will evaluate and monitor whether these processes meet its requirements. Paris Agreement Article 4.1 states that emerging markets may have non-linear emission reduction paths, where carbon emissions typically peak first and then decrease. Prudential believes that this may lead to an increase in the short-term carbon emissions of the investment portfolio, but it is also a necessary part of transition financing.
Challenges Faced by Emerging Market Transition Finance
Prudential believes that emerging market transition financing faces two challenges, namely:
- Lack of standardized definition of transitional financing: OECD data shows that only 7.9% of global funds will invest in green assets in 2023, and investing in carbon intensive assets and helping them decarbonize is an important way to achieve climate goals. Prudential believes that there is currently no standardized definition of transitional financing globally, which makes it difficult for stakeholders such as businesses and the financial industry to collect and analyze data. This phenomenon is more pronounced in emerging market economies.
- Emerging markets need flexibility: The Paris Agreement believes that decarbonization in emerging markets requires a holistic approach to sustainable development, taking into account their sustainability levels while transitioning. If the transition leads to an increase in energy prices, it may have an impact on its economy and society. Prudential believes that emerging markets need to consider the fairness of their transition and increase their representation in climate-related investment strategies in conjunction with their economic policies and development situations. According to research by the International Monetary Fund, emerging market assets in Asia account for approximately 10% of global investments, but only 2% of global ESG investments.
Introduction to Emerging Market Transition Finance Framework
Prudential reviews the transition frameworks and taxonomy of over 20 jurisdictions worldwide to establish an emerging market transition financing framework. The goal of this framework is to provide funding for transition in a fair and inclusive manner, in compliance with the standards of the Paris Agreement, covering all asset classes, and providing compatibility for different asset management companies. The Prudential emerging market transition finance framework is divided into three levels, namely:
- Level 1: Group Responsible Investment Policy Alignment: Prudential’s transition finance framework is aligned with its group’s responsible investment policy, with a focus on exclusions, engagement, and ESG integration.
- Level 2: Financing the Transition Category Alignment: Prudential categorizes transition financing into five different types: Climate Solutions, Aligned, Aligning, Transitioning amidst growth, Managed phase out. Among them, the Transitioning amidst growth is only applicable to emerging markets, and these companies may not be able to achieve the decarbonization trajectory of the Paris Agreement, but are still transitioning towards the decarbonization path.
- Level 3: Intentionality and Measurability: When evaluating new funds and investment strategies, it is necessary to consider that the fund clearly supports transitional financing and has data to measure the effectiveness of the transition. Prudential will regularly evaluate the investment methods of the fund to comply with the transition finance framework.
Reference:
Prudential Launches Framework for Climate Transition Investment with a Focus on Emerging Markets
