Net zero targets galvanised thinking around the climate crisis; they may also have unintended consequences.

At this week’s RI Europe event, we heard from asset owners how the pressure to reduce their portfolios’ carbon footprints in line with interim net zero reduction targets encourages short-term, “cosmetic” changes, but leaves the global real economy no closer to net zero.

In other words, selling off the most carbon-intensive assets will quickly ‘green’ a portfolio, but it will leave those jettisoned carbon-intensive companies starved of equity capital. These are the companies and assets that are most in need of capital to transition.

“The first milestone of 2025 is easy… if you are prepared to sell a few toxic assets,” said Innes McKeand, head of strategic equities at USS Investment Management, an investor with £81 billion ($103 billion; €94 billion) in assets under management.

Morten Nilsson – CEO of Brightwell, which manages the BT pension scheme – described the pension’s approach to real estate investing, which involves acquiring ‘brown’ assets and upgrading them to net zero status. Acquiring these assets makes an immediate negative contribution to the investors’ emissions data; if Brightwell was ruled by its short-term net zero ambitions, it would avoid these deals.

There is a parallel to be drawn here with regulation. One of the criticisms of EU SFDR is that, in order to classify as Article 9, a fund must invest solely in “sustainable” assets. Managers who want their funds to achieve Article 9 status – or investors who commit capital only to Article 9 funds – are side-stepping an important pillar of the energy transition: converting brown assets to green.

The conversations at RI Europe centred primarily on publicly traded securities, out of which asset owners and managers can trade with relative ease. Private markets holdings tend to be more complicated and costly to sell. Maine Public Employees Retirement System, for example, was told by its investment consultant earlier this year it would have to stomach an estimated $565 million loss if it were to sell its exposure to fossil fuel-related private investments.

Then there is the issue of data; a complete view of emissions data across a private markets portfolio is a struggle to collect. Indeed, when we spoke to Border To Coast Pensions Partnership, a UK pension pool, last year, it had excluded its private markets portfolio from its net zero targets, because the data was unavailable. It didn’t expect to produce private markets decarbonisation targets until 2025.

Illiquidity and incomplete data, therefore, may well discourage any ‘cosmetic’ shedding of existing private markets assets in need of transition, and encourage a more nuanced approach to the transition. New allocation decisions, however, are clearly affected.

IKAV started as an investor in renewable energy, but has recently added conventional energy assets to its strategy in the belief that this is a necessary component of an orderly, just transition. For example, it recently acquired Californian oil and gas producer Aera Energy (CPP Investments is now a joint venture partner). The plan is to introduce renewable energy generation assets to substitute the current fossil energy demand in its production, and to convert parts of its estate to create carbon capture and storage facilities.

In adjusting the strategy, the firm has shifted from one that neatly ticks the ‘green’ box for regulators and regulated investors to one that requires explanation.

IKAV chairman Constantin von Wasserschleben is critical of top-down target setting, even when entirely well intentioned: “By pushing targets with short framed deadlines, all you do is remove a degree of freedom to make commercial decisions aligned with smart decarbonisation strategies.”

“Dirty assets will continue to exist, it is just a question of who owns them… whether they exist in a grey area, being exploited by their owners, or whether they are managed by best practice investors who can use them as a hockey stick to decarbonise the economy.”

A net zero global economy remains the ultimate goal. To get there, regulation and disclosure frameworks must keep evolving to accommodate investments that “go to the pain” of the energy transition, rather than avoid it.