ESG in sovereign wealth funds: Opportunities and challenges

A sovereign wealth fund (SWF) is a government-run investment fund which furthers achievement of a country’s social and economic goals. By investing the country's wealth in different areas, SWFs can multiply their returns, help save for global financial issues and promote financial transparency and stability. [1]

SWFs are increasingly making an impact in promoting ESG objectives through their investment guidelines and decision-making processes which focus on the emerging low-carbon economy, promoting sustainable development and adherence to emissions goals. [2]

COP 28, the UN Climate Summit in Dubai, has the potential to be an influencer for the emerging low-carbon economy and is anticipated to impress upon financial sectors the certainty of emission restrictions as a significant part of regulation. [3]

One Planet Sovereign Wealth Funds

One Planet Sovereign Wealth Funds (OPSWF) launched in Paris in December 2017 to foster the goals of the Paris Agreement through acceleration of climate-related financial risk integration and facilitating knowledge-sharing. In 2018, OPSWF published a voluntary three-principled framework. Principle 1 focuses on the alignment of climate change considerations in decision-making. Principle 2 is about pressing companies to manage climate change issues comprehensively, boosting value creation. Principle 3 integrates climate change-related aspects towards fortifying long-term investment portfolio resilience. [4]

Through its growing network of sovereign wealth funds, asset managers, and private equity funds, OPSWF has harnessed more than USD37 trillion in assets committed to the implementation of the OPSWF Framework. [5] It continues to engage in “best practice peer exchanges on critical technical competencies including carbon accounting, climate risk evaluations, climate solutions and the Task Force for Climate Related Disclosure (TCFD) recommendations.” [6]

Recent progress in ESG

One of the most critical events in ESG is the UN’s inaugural Global Stocktake (GST), published in September 2023, and the more recent 2023 synthesis report on GST element. These provide an understanding about how the goals of the Paris Agreement are being implemented and evaluate joint progress in achieving its mission and long-term objectives, which include reducing emissions, adapting to changes, and establishing implementation methods and support. [7] GST provides the forward momentum to unlock the needed, more ambitious climate action for the dialogues at COP 28. [8]

Although the GST revealed that the world is currently not on track to meet the Paris Agreement, there has been notable progress on three prioritized workstreams in advancing ESG ideologies: 

1. Greater transparency and disclosure of climate data is essential to enable investors to better integrate climate change considerations into investment decisions. Under the leadership of Emmanuel Macron, President of France, and Michael R. Bloomberg, Special Envoy to the UN Secretary-General on Climate Ambition and Solutions, progress has been made in bridging the data gap, specifically with the launch of the Net-Zero Data Public Utility (NZDPU), a hub for essential climate transition data, chiefly for public entities. Also, the OPSWF Network, along with OPSWF asset managers and private equity peers, published the One Planet Disclosure Guidance for Private Markets (One Planet CDG) in October 2022, encouraging private market asset managers to report their estimated Scope 1 and 2 carbon emissions and estimated Scope 3 emissions for carbon intensive businesses for year-end 2023. [9] SWFs, as well as corporations, must heed the call for standardized ESG reporting and UN SDGs.
   
   Until comprehensive frameworks like the SASB are widely adopted, firms largely disclose their ESG data policies in text reports, making it difficult to understand how an organization pursues and achieves ESG goals. Advanced AI solutions will contribute here, by efficiently reviewing and extracting relevant concepts from millions of documents, aiding researchers in processing large-scale data to make building various predictive models much easier and more accurate. [10] 
2. Acceleration of investment in clean hydrogen is key to achieving the Paris Agreement goals. In 2022, OPSWF formed an alliance with the Hydrogen Council, which brings together 150 leading companies in the hydrogen industry, to support the advancement and implementation of a global standard for greenhouse gas (GHG) emissions assessment of clean hydrogen and certification solutions enhancing the global clean hydrogen market and reducing emissions. [11] 
3. Accelerating investments in renewables in emerging and developing economies and small and medium-sized enterprises (SMEs) reduces carbon emissions. Although challenging, investing in renewable energy in emerging and developing economies (EMDEs) constitutes a massive opportunity from the triple perspective of impact, risk, and return. Reducing carbon emissions in the EMDEs, while meeting the rising demand for affordable energy, will require scaling-up private sector engagement and capital flows. The challenges lie in the small size of projects and complex, non-standardized regulations which could hinder capital flow; these concerns will in part be dealt with through the newly organized West-Central African Renewable Investment Acceleration Program to get multilateral development banks involved. [12] 
   
   Small and medium-sized enterprises (SMEs), comprising 90 percent of all businesses in the Middle East and North Africa, play an integral part in the drive toward net-zero emissions. The COP 28 presidency, with the SME Climate Hub and We Mean Business Coalition, has launched a program aimed at aiding SMEs in the region in adopting net-zero strategies. The program enables businesses with fewer than 500 employees to commit to UN-backed climate goals and provides them with free tools for implementing emission-reducing strategies and is supported by partners such as Masdar and First Abu Dhabi. [13] 

The role of sovereign wealth funds in achieving global ESG goals

Compared to governments and companies, SWFs have a unique position that allows them to contribute to the achievement of global ESG goals. They are well suited to invest in sustainable development goals (SDGs) which require long-term investments and have a high risk. SDGs have significant social or environmental benefits and leverage SWF’s influence to encourage more sustainable practices.

There has been an impressive integration by SWFs of ESG considerations into their investment processes. According to a report by the International Forum of Sovereign Wealth Funds, 71 percent of sovereign wealth fund respondents said they had adopted an ESG approach, compared to 24 percent in the previous year. [14] Further, a UNCTAD study on the world's largest public pension funds (PPFs) and sovereign wealth funds (SWFs), totaling USD22 trillion in assets, reveals ESG integration heavily influencing investments. Notably, three-quarters of these investors are planning to bolster allocations into impact strategies.

The long-term obligations and investment horizons of SWFs ensure ESG integration's ascent as an integral part of their mandates. [15] SWFs have emerged as significant drivers of change. Through initiatives like OPSWF and their commitment to ESG integration, SWFs are actively contributing to addressing pressing global challenges.

DLA Piper’s capabilities helping SWFs

DLA Piper’s integrated legal and business services help SWFs achieve their goals in transitioning to a sustainable future and overcoming the challenges through integrated, global processes and knowledge. It has dedicated teams that focus on ESG services across industries as more fully described at DLA Piper ESG capabilities.

If you have any questions or would like more information about SWFs or other ESG topics, please do not hesitate to contact Dr. Ehab Elsonbaty.

[1] Sovereign Wealth Fund (SWF) | Definition, Purpose, Types, & Examples (financestrategists.com); The Global Sustainability Footprint of Sovereign Wealth Funds (harvard.edu)
[2] ESG moves up on sovereign wealth funds' priority list | Pensions & Investments (pionline.com)
[3] What Can COP28 Achieve? by Geoffrey Heal - Project Syndicate (project-syndicate.org)
[4] Companion-Document_2022.pdf (oneplanetswfs.org), p.6.
[5] Companion-Document_2022.pdf (oneplanetswfs.org), p.4
[6] 6th-Annual-OPSWF-CEO-Summit-Communique.pdf (oneplanetlibrary.com), p.3.
[7] 2023 Synthesis report on GST element: Views on the elements for the consideration of outputs, p. 2.
[8] Why the Global Stocktake is a Critical Moment for Climate Action | UNFCCC
[9] 6th-annual-OPSWF-CEO-summit-press-release_final.pdf (oneplanetlibrary.com), p.2.
[10] https://www.forbes.com/sites/forbestechcouncil/2020/10/21/three-ways-ai-can-assist-esg-investment-decisions/?sh=2075420e4d5a.
[11] Hydrogen Certification 101 paper
[12] 6th-annual-OPSWF-CEO-summit-press-release_final.pdf (oneplanetlibrary.com), p. 3
[13] https://www.cop28.com/en/news/2023/10/mena-smes-implement-net-zero-strategies
[14] IFSWF The S in ESG.pdf, p.2.
[15] Sovereign wealth funds increase ESG adoption | ESG Investing: Sustainability News, Events & Awards