Launched in 2018, PACTA was developed by 2º Investing Initiative (2DII) with a range of partners, including the Principles for Responsible Investment (PRI), University of Zurich, and Frankfurt School of Finance. Thus far, PACTA has been used by more than 4,500 individuals from over 3,000 institutions worldwide, as well as by supervisors and central banks to assess their regulated entities (such as the European Insurance and Occupational Pensions Authority, California Department of Insurance, Bank of England, and more). On average, more than 600 portfolios are tested every month using PACTA.

Access the online version of tool here: TransitionMonitor.com.

How PACTA works

PACTA compares what needs to happen in climate-relevant sectors in order to minimize global temperature rises, with financial institutions’ exposure to companies in these sectors. It employs a dynamic, forward-looking approach, based on the 5-year production plans of companies to which a portfolio is exposed.

The methodology measures alignment per sector or per technology, because what needs to happen to meet the goals of Paris Agreement varies by sector. Some sectors need to move more quickly than others; some sectors need to reform (such as power generation); and others need to phase out (for instance, fossil fuels).

The climate-relevant sectors currently covered by PACTA are power, coal mining, oil & gas upstream sectors, auto manufacturing, cement, steel, and aviation, with the shipping industry to be added soon. Collectively, these sectors account for about 75% of global greenhouse gas emissions.

A critical feature of PACTA is that it relies on physical, asset-based company data as the core analytical concept, which provides granular, regional, sector-specific, forward-looking production pathways that can be compared with various scenarios.

This core alignment functionality is complemented by a stress-testing module for investors that measures various climate scenarios’ influence on asset prices. 2DII is also developing a stress-testing module for banks, which will be available by late 2021.

2DII has developed two tools to help apply the methodology:

• PACTA for Investors, an online interactive tool for investors and others to apply PACTA to their equity and corporate bond portfolios.
• PACTA for Banks, a stand-alone software package and toolkit that enables banks to apply PACTA to their loan books. As part of this, 2DII and Asset Resolution provide the underlying company production forecast data for free.

New: Transition Disruption Metric helps investors gauge potential future portfolio disruption stemming from a disorderly transition

The PACTA tool now features a Transition Disruption Metric (TDM), helping investors prepare for potential portfolio disruption stemming from risks associated with a disorderly transition to a low-carbon economy. Developed by 2DII in partnership with the Inevitable Policy Response (IPR) consortium, PACTA now provides the TDM alongside its portfolio alignment model. It indicates the degree of potential portfolio disruption under the IPR’s new Forecast Policy Scenario (FPS), going out to 2030.

Access the TDM here.

Access the methodology document here.

The latest FPS, released just before COP26, shows that rapid policy acceleration up to and post 2025 would bring the “below 2°C” Paris Agreement goal within reach. Attaining this goal would require a significant ramp-up in energy and land use policy action, including electrifying transport, retiring coal, and ending deforestation. The new FPS is based on a high conviction forecast of likely policy developments and real economy impacts of significant acceleration in climate policy from 2025 onward, leading to a 1.8°C outcome.

How the Transition Disruption Metric works

The TDM measures the portfolio’s transition pace from 2021-2026 against what will be needed in the subsequent four years from 2026 in order to align with the FPS scenario by the end of 2030. In other words, it provides a quantitative score of potential disruption based on how far the portfolio lags / leads the FPS scenario in the first five years.

The indicator will be available at technology and portfolio level, subject to scenario and data availability. The higher the score, the higher the chance of portfolio disruption in the medium-term. If investors want to mitigate policy risk and transition more smoothly, they would need to move ahead of the FPS. This means they should begin adjusting exposure or engaging with companies at a faster or slower pace, according to their results under the TDM.

Benefits of using PACTA

In addition to measuring portfolio alignment, PACTA can be used for a variety of applications, including:

• Measuring exposure to risks associated with the transition to a low-carbon economy
• Obtaining relevant data to support shareholder engagement
• Implementing the recommendations of the Task Force on Climate-Related Financial Disclosures (TCFD)
• Supporting compliance with related reporting and disclosure regulations (Article 173 of France’s Law on Energy Transition for Green Growth, upcoming EU disclosure requirements, and more)

Both tools can also be used by governments and supervisors to assess their regulated entities’ alignment with climate benchmarks.

The banking industry

PACTA for Banks enables users to measure the alignment of their corporate lending portfolios with climate scenarios across key climate-relevant sectors and technologies. Banks can use this information to help steer their lending in line with climate scenarios; to inform their decisions around climate target-setting; and to gain insights into their engagement with clients on their climate-related expenditure plans and other issues.

2DII developed PACTA for Banks as a free-of-charge public good, in partnership with and funding from a range of stakeholders across the banking, academic, and NGO sectors. Prior to launch in 2020, the toolkit was road-tested by 17 leading global banks from Europe, North and South America. These include the five Katowice Pledge banks (BBVA, BNP Paribas, ING, Société Générale, Standard Chartered), as well as ABN Amro, Bancolombia, Barclays, Groupe BPCE, Citi, Credit Suisse, Itaú Unibanco, KBC, Nordea, Santander, UBS, and Unicredit. The toolkit has also been reviewed by over a dozen academic institutions and designed with the input of NGOs and industry experts.

Supervisors and regulators

Financial supervisors and regulators are becoming increasingly concerned by climate-related risks, with stakeholders including the Network for Greening the Financial System (NGFS) calling for climate risks to be integrated into financial stability monitoring and supervision. 2DII has been proud to support supervisors’ efforts to address these risks, with PACTA now established as a leading model for running scenario analysis and climate stress tests.

Since 2016, 2DII has worked with first movers including the New York Department of Financial Services, the California Department of Insurance, the Bank of England, and the European Insurance and Occupational Pensions Authority (EIOPA). As a general rule, financial supervisors publicize the high-level results and send detailed reports to regulated entities to inform their supervisory dialogue. These types of partnerships are also being extended to banking supervision.

2DII is also currently collaborating a number of financial supervisory authorities and central banks across North and South America, Europe, and Asia on climate risk assessments and stress-testing exercises. Find out more about our work with supervisors here.

Coordinated assessments with governments

PACTA Coordinated Projects (PACTA COP) is a dedicated program in which 2DII collaborates with governments, as well as supervisors and industry associations, to help them apply PACTA to the portfolios of their regulated entities. The goal of this program is to measure the alignment of the entire financial sector as well as individual participating institutions. The outcome can be used by governments, supervisors, and participating financial actors to inform their climate finance strategies.

Already, 2DII has helped to run the assessments in Switzerland, Liechtenstein, and Austria, as well as with the New York State Department of Financial Services, pension funds in Peru and Mexico, banking groups in Mexico and Malaysia, and an insurance trade association in Colombia. Additional governments and supervisors, including the Netherlands, Norway, and Luxembourg, are set to do the same in the coming months. Find out more here.

Governance

In 2021, 2DII launched an expert-led, multisector Advisory Group to advise on new governance for PACTA. As PACTA’s community of users and capacities has expanded, 2DII is keen to address key governance, operational, and conceptual questions in collaboration with a diverse array of climate finance specialists. The Advisory Group’s main mission will be to propose a long-term governance framework, which in turn will help ensure the methodology’s scientific integrity and independence; promote co-ownership of the open-source methodology by its stakeholders; and contribute to the harmonization of the growing number of climate alignment concepts and methodological choices.

To find out more about the PACTA Advisory Group, see here.

About our funders: The PACTA tool has received funding from the European Union’s Life programme under LIFE Action grant No. GIC/FR/00061 PACTA. It has also received support from the International Climate Initiative (IKI). The Federal Ministry for the Environment, Nature Conservation and Nuclear Safety (BMU) supports this initiative on the basis of a decision adopted by the German Bundestag. This content reflects only the author’s view and the funders are not responsible for any use that may be made of the information it contains.