Water: The New Screen for Investment Risk

Water: The New Screen for Investment Risk. Focus on potential water shortages is part of investors’ interest in ‘sustainable’ investing

Investors make big decisions based on the outlook of such fundamentals as interest rates and energy costs.

What is more fundamental than water?

For many companies, not much. Water disruptions potentially can have a significant effect on a company’s supply chain. As a result, money managers, fund managers and individual investors are putting more weight on the potential for water shortages as a risk factor for investments.

Four years ago, Daniel Wild and his team at RobecoSAM, a Swiss asset-management firm specializing in socially responsible finance, or sustainability investing, saw such a gap.

For instance, could a company like Nike Inc., which uses water-intensive cotton, be hit by drought or water scarcity in regions where it produces shoes and clothing? How would utilities such as nuclear power plants cool their facilities when groundwater and reservoirs are low and earmarked for public consumption?

Checking exposure

“What we are trying to find out is whether companies are aware of their own exposure to water risks and whether they are taking appropriate measures,” says Mr. Wild, a former water engineer whose firm works with S&P Dow Jones Indices to publish the Dow Jones Sustainability Indices. “We ask how companies address water, what do they know, how do they quantify what they know, what are their Plan B’s?” (News Corp’s Dow Jones & Co., which publishes The Wall Street Journal, formerly had a stake in S&P Dow Jones Indices.)

Mr. Wild and his team ended up tweaking their existing assessment weighing environmental, social and governance factors to include a greater emphasis on water. These include how companies save water or how they deal with local water regulators.

Others have since followed suit, helping investors assess whether their portfolios could suffer, or benefit, from such environmental concerns as droughts, tighter regulatory environments and new infrastructure needs.

The fund-research firm Morningstar Inc. recently said it plans to start grading all mutual and exchange-traded funds on environmental, social and governance factors, not just funds that identify themselves as sustainable or socially responsible. The company cited as a main driver for the move a study by Morgan Stanley’s Institute for Sustainable Investing, which found 71% of individual investors are interested in sustainable investing.

Droughts in Brazil inspired Marcello Siniscalchi, chief investment officer at Brazil’s Itaú Asset Management, to design a stress test for global companies that assumes water will become scarcer, costlier and more regulated.

“What we’ve done is suppose in the next 10 years that this [situation of shrinking water supplies] will be universal,” he says, adding that he can also forecast the impact that an event such as water rationing could have on a country’s GDP or inflation rates.

Monika Freyman, senior manager of the Water Program at the Boston-based nonprofit Ceres, co-wrote a report titled “An Investor Handbook for Water Integration,” which looks at risks investors face from water scarcity and the need to incorporate water issues into their investment strategies. The report surveyed 35 managers and owners from around the world with assets ranging from $100 million to $950 billion.

Among other things, the report advocates incorporating water risk into analyst buy/sell decisions for specific companies and increasing corporate disclosure on water-management plans.

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Taxonomy

• Sustainable Water Resource Management
• Investments
• Investment
• Sustainable Investments