John Harvard Statue

Decarbonizing a large financial portfolio is a complicated task.  Investment managers and their fiduciaries need to ensure that institutional requirements can continue to be met even with greenhouse gas constraints on investment choices.  Selecting what to cull and what to keep is not always straightforward.  Once beyond the most obvious fossil fuel extraction companies, identifying which firms are acceptable investments in a carbon constrained world becomes more gray.  There are greenhouse gas-intensive firms in other sectors.  There are firms that are efficient producers within their sector, but still more carbon-intensive than alternatives once a slightly longer time frame is incorporated.  Lines of business (such as finance or retailing) that appear to have low direct emissions from the consumer-facing portion of the industry, yet be linked to quite substantial emissions once their supply chains, borrowers, or embedded emissions in products (e.g., with refrigeration or air conditioning) are taken into account. 

Read Earth Track's Analysis:  Investment Disclosures by Asset Class -
Current Practice at Harvard Compared to Large Funds

And measuring climate impacts remains an imperfect process, with sometimes wide disparities in how different tracking organizations evaluate carbon impacts of the companies they monitor.  Further, the depth and breadth of coverage and evaluation drops off sharply as one moves from publicly-traded firms to private; from large firms to smaller; and from highly-analyzed developed market firms to developing and frontier countries.  State-owned enterprises, big players in oil and gas around the world, do not always publish reliable and transparent books of account.

Further, if the world progresses as needed to address the threat of climate change, it is clear that many of the firms and industries deemed acceptable in a 2021 portfolio will no longer be so in 2025, 2030, and beyond.  Indeed, the evaluative process will need to be continuous and dynamic.

True, many of these problems will improve over time.  But that time will measure in decades, not years; and each step will be a potential battle.  The Financial Accounting Standards Board, set up to establish standardized rules for corporate financial reporting, is nearly 50 years old.  And yet it continues to grapple with new challenges year-in and year-out.  ESG standards are more wide ranging and often more difficult to quantify.  Further, at least at present, there is less pressure on firms to adopt and apply them.  Consider that with financial reporting, even a small privately-owned firm in a sector with no public-facing reputational risk needs to take on bank loans, and the banks will require audited and accurate financial statements.  The insurers will want reliable financial information, as will many customers.  A similarly-situated firm in an environmentally-problematic industry will not see the same pressure to rigorously adopt standardized environmental reporting. 

Because decarbonizing a multi-billion dollar endowment is a process rather than a statement or an event, one needs to pay careful attention to the checks and balances, the disclosures, and the oversight of actions and procedures that the investment managers and their overseers put into place.  End goals are important, but not without interim milestones that are both concrete and verifiable.  Public commitments are commendable, but not without public disclosure that allows others to see, evaluate, and critique the progress, or lack thereof.  

The good news is that while it is very hard to cost-efficiently pull CO2 out of the air, it is much less hard to establish a robust set of checks and balances on endowments.  These oversight mechanisms can both protect the core (and real) needs of investment managers to move quickly and strategically on their investment strategy, while also ensuring detailed disclosure of those investments over time such that key stakeholders are able to see regular and systematic progress in the endowment's transition to net zero and beyond.

A key element in this oversight is much more extensive disclosure of investment holdings than what Harvard currently does.  Earth Track's review assesses Harvard's endowment asset-class by asset-class.  How big is each category in terms of total holdings?  What has the university committed to do in terms of disclosure and decarbonization?  What should disclosure look like for each asset class, and where are other large investment funds already disclosing much more detail than Harvard does, and yet surviving just fine?

Investment Disclosures by Asset Class: Current Practice at Harvard Compared to Other Large Funds

Harvard has the largest university endowment in the world.  Its investments are run by the affiliated Harvard Management Company (HMC), which operates under the Treasurer of the University and the Harvard Corporation.  The University has committed that the endowment will be net zero greenhouse gas emissions by 2050.  The stature of both the University and its endowment mean that real innovations in investment tracking, measurement, and selection would have enormous ripple effects across many other large investors.  At present, however, there have been no interim milestones publicly announce

As the manager of the largest university endowment in the world, Harvard Management Company (HMC) faces significant challenges.  The investment returns are what enable Harvard University to grow, hire top-quality professors, and cover tuition for bright students from all over the world regardless of their financial circumstances.  So there is appropriately a tremendous focus on market-beating returns.  And yet the scale of the endowment brings with it responsibilities to invest morally as well, in alignment with the mission and goals of the school; to focus on long-term sustainable growth rather than short-term returns; and to fund ideas that can make money while also solving complex societal problems.

While most of my work has focused on subsidy reform as a key lever for transitioning economies to a carbon-neutral path over time, the deployment of institutional capital in a climate-responsible way is another important and powerful component of this needed economic transition.  This paper examines the transparency and climate alignment of Harvard's investment portfolio.

View working paper Reducing the carbon footprint of Harvard's endowment

Although Harvard Management Company has signed on to a number of initiatives and networks related to sustainable and socially responsible investment, the visibility on implemented practice and specific investments is very limited.  There may be a great deal of data, discussion, and analysis behind the scenes, but in terms of public transparency and accountability, Harvard's control system is weak.  At present, there is no way for independent parties to review public information and evaluate the specific investments in the portfolio.  Similarly, one can't tell whether Harvard's integration of environment, social, and governance factors in investment review and deployment is robust and effective or mostly symbolic. 

Data needs to be public for there to be a strong system of accountability.  External analysts often ask different questions or vet decisions in ways that HMC may not have thought of or may not wish to do.  And publicity greatly reduces the latitude for practice to lag pronouncements. 

Further, the knowledge that investment decisions within HMC will eventually be public -- even if delayed somewhat to protect HMC's competitive advantage -- ensures that ESG factors are evaluated more completely now.

Data on current levels of disclosure present a fairly stark picture.  More than half of Harvard's portfolio is invested in hedge, private equity, and natural resources -- for which there is no line-item detail.  Only 13% of total holdings have "level 1" prices -- those set through market buying and selling on a frequent basis.  Even more striking is the mandated reporting to the Securities and Exchange Commission (13F filings) of line-item detail on holdings.  Because the rules apply to only a subset of investments (primarily directly-held US equities), and Harvard relies on more complex forms of investment, the reported holdings comprise less than 1% of the investment portfolio. 

One percent is extraordinarily low, but it gets worse.  Fossil fuel divestment proposals, which have been proposed by a number of groups within the Harvard community, wouldn't even apply to this full 1%.  Based on patterns set with Harvard's tobacco divestment in 1990, commingled structures such as exchange traded funds that hold a slice of a basket of stocks would not be affected by a decision to divest.  Harvard's holdings that are both publicly-reported in the 13F and subject to divestment decisions comprised only about 0.7% of the total portfolio.  And within this very small group of stocks listed in the last two 13F filings, there was not a single firm from the fossil fuels sector.

Unfortunately, this doesn't mean that the University has already dealt with climate in its investments.  Rather, it indicates that divestment efforts as they have generally been formulated would leave significant concerns on what was going on in the other 99% of the investment portfolio, and whether and to what degree those other investments were aligned with the University's climate goals. 

The immediate challenge put forth in this paper is how to identify practice and disclosure improvements that create a real system of accountability with respect to climate, while also protecting HMC's ability to act flexibly and quickly on investment opportunities.  The paper suggests this is a solvable problem, and that significant transparency improvements on climate-relevant investments could be implemented quickly.