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Wed 7 Nov 2007 09:33 AM

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Investment goes green

Investment banks are developing a growing range of financial products linked to environmental issues.

Investment goes green
Global warming: as sea levels rise, so could investments in environmentally friendly industries and commodities.

Gloomy predictions that man-made pollution will raise sea levels, increase the frequency of extreme weather events, and wipe out large parts of the planet could, at least, be good news for investors. As more companies move into environmentally friendly lines of business, there are opportunities to benefit from their growth.

Last month, Merrill Lynch launched two new indices to offer investors exposure to the growing market in biofuels: the MLCX Biofuels index and the MLCX Biofuels Plus index. The Biofuels index weights commodities according to their calorific content and production levels, and contains seven commodities commonly used as biofuels feedstock: sugar, corn, soybeans, barley, rapeseed, canola and soybean oil. The MLCX Biofuels Plus index, by contrast, reflects how current technology and infrastructure is more geared to blending biofuels with conventional fossil fuels.

All asset classes are likely to be affected.

Francisco Blanch, head of global commodity research at Merrill Lynch, said: "Our indices have been carefully designed to mitigate the negative roll returns inherent to many agricultural commodities markets. They also offer additional returns by overweighting crops that produce the most energy in biofuel production, notably sugar and soybeans."

Merrill Lynch expects demand for biofuels to be driven by legislation from Europe and the US which aims to increase the proportion of transport fuel consumption from biofuels.

In September, HSBC launched its Global Climate Change Benchmark index and four associated investable climate change indices. The indices track and reflect the stock market performance of companies it considers best-placed to profit from the challenges of climate change. These include companies focused on reducing harmful emissions, those involved in reacting to the effects of climate change, and those focused on adapting to climate change. Companies in the indices generate 50% of their income or more from businesses focused on addressing climate change issues.

HSBC says its Investable Climate Change Index would have produced a 125% return since 2004 and outperformed both the MSCI World and Dow Jones World Sustainability indices. It would also have beaten one of the broadest publicly available climate change indices, the KLD Global Climate 100, by 42% from July 2005 to date.

A research report issued by Morgan Stanley last month said: "It is often felt that climate change is a specialist topic for investors with a specific Socially Responsible Investment (SRI) mandate or for investors with a very specific sector interest, such as alternative energy, utilities or transport.

"However, we believe that understanding the risks and opportunities created by climate change is key to a much wider range of investors as all asset classes are likely to be affected."

The bank foresees negative effects for risky assets such as equities and says that countries damaged by climate change could expect to see their currencies weaken. It names Saudi Arabia and Iran among the world's leaders in carbon emissions growth.

With the region so reliant on oil and gas incomes - not to mention its role in pollution - investors from the Middle East could find it prudent to gain exposure to assets that will gain value as alternative energy schemes take off.

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