Tax Efficient, Sustainable Investing Portfolios
By Marc Westlake
Published on: September 8, 2022
A new range of tax optimised investment portfolios, providing broad exposure to global capital markets, is now available to our clients.
The portfolios utilise the iShares Paris-Aligned Climate MSCI ETFs for equity exposure and Dimensional Sustainable Fixed Interest Funds for Global Bond exposure hedged to Euro.
This new range complements our existing tax optimised investment portfolios while adhering to the carbon reduction objectives set forth in the Paris Agreement.
Passively Managed Relative Return Funds
The funds within these portfolios are Passively Managed, meaning that the fund’s performance aims to simply track or mirror an index for a low charge (sometimes referred to as ‘index tracking’). It is our belief that for many investors, without any particular investment preference to the contrary, this represents the optimum investment strategy. This is based on the widely held belief that the markets are efficient enough (share prices are accurate enough) that active fund managers can’t add enough value to offset their fees. This belief is certainly supported in most academic studies.
Equities
Companies embroiled in severe ESG-related controversies, as well as firms with business operations linked to weapons, tobacco, thermal coal, oil & gas, and oil sands, are excluded from these funds.
The MSCI’s Climate Paris Aligned methodology then reweights remaining securities, based on the risks and opportunities associated with the climate transition, while also seeking to minimize exclusions from the parent index.
MSCI harnesses a diverse range of data and analytical tools to aid in index construction. This includes scope 1, 2, and 3 carbon emissions, green revenues, and the index provider’s own proprietary low carbon transition score and climate value-at-risk measures.
The index offers an immediate 50% reduction in weighted average carbon intensity as well as a further 10% annual decarbonization going forward. These conditions satisfy the European Union’s Paris-aligned Benchmark (PAB) requirement, aligning the strategy with a trajectory to limit global warming to 1.5°C by 2050.
In addition to the above primary objectives, the index aims to achieve secondary objectives such as maximizing exposure to sustainable energy providers, increasing the weight of companies with clear carbon reduction targets, minimizing fossil fuel exposure, reducing climate value-at-risk by 50%, and maintaining a modest tracking error relative to the parent index.
As of the end of January 2022, the US index contained 319 constituents compared to 628 for the MSCI USA. There was notably higher weight in information technology stocks at 37.2% (vs. 29.4%) while the next-largest sector exposures were broadly in line with the parent universe – consumer discretionary (12.5%), health care (12.1%), financials (10.6%), and communication services (8.5%).
The largest stocks echoed those in the parent index albeit with slightly higher weights. They were Apple (8.0%), Microsoft (6.4%), Amazon (3.4%), Tesla (2.8%), Alphabet C (2.3%), Meta Platforms A (2.0%), and Nvidia (1.9%).
Fixed Interest
The investment objective of the Global Sustainability Fixed Income Fund is to seek to maximise total returns from the universe of debt obligations in which the Fund invests.
The Fund promotes sustainability in accordance with Article 8 of Regulation (EU 2019/2088) on sustainability related disclosures in the financial services sector (SFDR). The Fund does not have sustainability investment as its objective but as part of the fund’s investment policy, the Investment Manager does consider the sustainability impact associated with securities when making investment decisions.
While the Fund promotes sustainability and the Investment Manager considers sustainability impact considerations, the Fund’s investments are not evaluated against the EU criteria for environmentally sustainable economic activities and, therefore, the “do no significant harm” principle does not apply to the Fund’s investments.
The Investment Manager aims to exclude or underweight top contributors to greenhouse gas emissions as compared to their representation in the Investment Universe, as well as issuers with high levels of potential emissions from reserves.
With respect to its holdings of securities of corporate issuers, the Fund’s primary sustainability goal is to provide a reduction in exposure to greenhouse gas emissions intensity of at least 50% and a reduction in exposure to potential emissions from reserves of at least 75% relative to the corporate bond market.
The Fund assesses corporate issuers on several considerations – greenhouse gas emissions intensity, potential emissions from fossil fuel reserves, land use and biodiversity, toxic spills and releases, operational waste, and water management, with the vast majority of weight placed on greenhouse gas emissions intensity. Greenhouse gas emissions intensity represents an issuer’s most recently reported or estimated Scope 1 (direct) + Scope 2 (indirect) greenhouse gas emissions converted to carbon dioxide (CO2) equivalents, normalised by sales in USD (metric tons per USD million sales).
Taxation
The equity element of the portfolio has been assessed by our tax consultants. While it is never possible to guarantee the tax treatment of an ETF, in their view US ETFs used in our portfolios are “correctly categorised as a CGT, rather than a fund”, in other words General Tax Principles rather than Exit Tax apply. These portfolios therefore offer highly beneficial tax planning opportunities for Irish Resident Investors.
The fixed interest element is a UCITS fund and therefore will be subject to Exit Tax (41%). For more details, please see our Guide to Taxation of Investments.
Comparison with UCITS Fund
