Climate Aware Index Based on Commodities
S&P Dow Jones Indices launches the world’s first commodity-based climate index S&P GSCI Climate Aware Index, which aims to maintain the inflation sensitivity of commodities and diversification gains while providing a lower climate footprint than the benchmark S&P GSCI Index.
S&P believes that with investors’ increasing attention to energy transition, the Climate Aware Index will help them reduce carbon emissions in their commodity portfolios and meet sustainable requirements.
Difference between New Index and Benchmark
The S&P GSCI Climate Aware Index is derived from S&P GSCI Index, but adopts the climate transition strategy of the benchmark index to reduce the environmental footprint of the components. To build the new index, S&P used Global Commodity Environmental Dataset, which provides the physical and financial impact of greenhouse gas emissions, water consumption and land use at the commodity level.
From the weight calculations of commodities, the new index is more inclined to increase the proportion of metals and reduce the weight of fossil fuels. Compared with the benchmark index, the environmental impact of the new index has decreased by 25%, and it can achieve the annual decarbonization target of 5%. In terms of resource consumption of commodities, the impact of the new index is also lower than the benchmark index.
According to the statistical indicators, the annualized return of the new index is 0.7%, and the annualized return of the benchmark index is -0.4%. The annualized volatility of the new index is 19.6%, and that of the benchmark index is 21.6%.
Decarbonization Treatment of Climate Aware Index
S&P has cut the environmental footprint by 25% in the S&P GSCI Climate Aware Index, but the carbon emission characteristics of commodities have increased the difficulty of reducing the environmental footprint. In EU Taxonomy, regulators have explained that there are many uncertainties in future decades of sustainable development, and it is difficult to form a consensus solution at present.
For example, the new index increases the proportion of natural gas in the allocation of fossil fuels. Although natural gas still emits greenhouse gases such as carbon dioxide, it is relatively environmentally friendly compared with other fossil fuels. Using natural gas as a transitional energy can provide a lower environmental footprint. The EU taxonomy also believes that using natural gas to replace coal can play an important role in the next two decades.
Limitations of Climate Aware Index
As the world’s first climate index in commodities, S&P also analyzes the limitations of the new index. Unlike the stocks and bonds, the disclosure of commodity-related information is relatively less, and it is more difficult to obtain valuable data. More information is needed to assess the environmental footprint accurately.
The calculation of impact in futures is also different. Investors always trade futures to reflect the price fluctuations of commodities, and most of the volumes in futures are rolled. The direct impact for commodity futures to the market is hard to quantify.
At the same time, the decarbonization calculation of existing technologies for commodities is still at the primary level. For example, some metals have great potential in clean energy and low carbon economy, but they are not reflected in the current calculation. Later, S&P may consider including these implied positive externalities. Besides, Climate Aware Index involves a variety of commodities and their derivatives, which are traded on multiple exchanges around the world. Different exchanges have different standardization requirements, which introduces errors in the calculation.
Apart from environmental footprint calculation, S&P plans to incorporate social and governance factors into the new index in order to comprehensively measure the ESG impact on commodities. In addition, new derivatives such as voluntary carbon quota futures will also become an essential direction for future index revision.