Climate change and biodiversity impact continue to attract investor interest, with both regulation and public opinion increasing pressure on asset owners and money managers to align portfolios with sustainable corporate practices.
We recently sat down with Frederike Bauer, Product Specialist at Xtrackers by DWS. We asked her about the ongoing focus for investors on climate and natural capital, and on industry trends on products and data in those fields.
In November 2023, DWS launched the first ETFs tracking the new ISS STOXX® Biodiversity indices, a suite that integrates nature-related risks and opportunities through a holistic approach. The funds, which complemented an extensive climate-related offering from the German asset manager, are based on the following three indices:
- ISS STOXX® Developed World Biodiversity Focus SRI
- ISS STOXX® Europe 600 Biodiversity Focus SRI
- ISS STOXX® US Biodiversity Focus SRI
Below is part of our conversation with Frederike.
Frederike, climate continues to be a major area in responsible investing. What have been the headline trends in this segment?
“Climate investing has become increasingly mainstream — not just a component of ESG investing, but its cornerstone. What began as a risk management tool has evolved into a strategic objective in its own right.
While market demand has been a key driver of this growth, regulation has played an equally critical role in accelerating flows. Europe has led the way on regulatory initiatives, most recently with ESMA[1] guidelines requiring that any fund using ESG terminology in its name must, at a minimum, apply Paris-aligned benchmark exclusions. In practice, this means that every ESG-labelled investment must have a pronounced climate focus. Previously, climate was just one optional element within a broader ESG strategy.”
Is that general to ESG investing, or is there anything specific to index-based investment products?
“I think climate investing is generally easier to implement in the indexing space. Index-based strategies benefit from systematic rules — such as those defined in the PAB and CTB regulations[2] and referenced under the ESMA fund naming guidelines — which can be embedded into the methodology to produce consistent, rules-based outcomes. In contrast, active investors must evaluate the impact of each decision to add or remove a company from the portfolio, which may add complexity. This is particularly true for broad climate strategies.”
How has the type of climate data that can be integrated into indices and ETFs evolved, and what are investors asking for in this sense?
“Investors are demanding more and more transparency. As data quality and availability have improved, awareness about its nuances has increased, and the questions have become more granular and sophisticated. Today, it’s important for investors to fully understand and drill down into the different data points to know exactly what they’re telling us and what they may be omitting.
Whereas at the start, investors would focus on carbon emissions, this has evolved to more detailed questions: ‘What is included in Scope 3 emissions? How is that data being collected? What does a coal distribution filter imply?’ And so on. It is indeed a continuous process of constantly learning new things, both for investors and service providers like us. It’s quite exciting from that perspective.”
We’re hearing a lot about the importance of forward-looking and real-world impact metrics as opposed to backward-looking data such as carbon emissions.
“That’s definitely true — especially in the area of biodiversity. Investors increasingly recognize that ESG, climate and biodiversity are highly complex topics, and those clients who have these topics on their agenda are digging deeper into the details. For example, they’re seeking to distinguish between data and metrics that reflect what a company is doing for the environment today and how those actions may affect them in the future.
This highlights that the emphasis on risk reduction of the early days has been completed by certain investors with a focus on how investee companies affect the environment and biodiversity, among others. This wasn’t always easy to measure and report on, but, again, with new datasets such as ISS STOXX’s Biodiversity Impact Assessment Tool (BIAT)[3], the task is becoming more transparent.”
Staying on the topic of biodiversity, DWS and STOXX have collaborated on the Biodiversity Focus SRI ETFs. Could you walk us through the main idea behind this initiative and what it aims to achieve?
“The Biodiversity Focus SRI ETFs were developed based on conversations with clients and a recognition of broader trends in sustainable investing. The strategy is comprehensive — it incorporates a thematic approach while also addressing biodiversity-related risks through a range of defined parameters.
The indices incorporate a range of filters and datasets in a transparent manner, using scientific evidence to assess each company’s impact on nature, the environment and biodiversity — and to identify which companies are performing better than others.
We constructed the indices starting with standard SRI[4] compliance and product-involvement screens, plus biodiversity-specific exclusions such as harmful pesticides and animal testing. We then select those companies by ICB Sector with the lowest impact on biodiversity according to the BIAT. We then further filter for companies with exposure to selected biodiversity- and climate-related UN Sustainable Development Goals (SDGs), and, finally, ensure the portfolio has lowered its carbon footprint by 30% relative to the starting universe.
Through this process, we can exclude business activities that are inherently harmful to natural capital, while also incorporating forward-looking company data. For example, the BIAT methodology includes the Potentially Disappeared Fraction of species (PDF) ratio, which quantifies the potential loss in species richness in a given area over time due to environmental pressures — ranging from 0% (no impact) to 100% (complete loss). This metric helps estimate how many years it would take to reverse a company’s ecological impact and restore the affected ecosystem to its natural state. In essence, it serves as a risk assessment tool for measuring the severity of biodiversity loss.
All these ingredients and interdependencies are integrated into a systematic process, using the best indexing tools at our disposal, to build a product around it. There may appear to be a lot going on here, but that’s necessary when dealing with a complex and multifaceted topic like biodiversity.”
What role does an index provider, and the access to specific datasets, play in the design of your ETFs?
“As you can see, for this specific methodology, we needed a partner with flexibility, the right expertise and access to relevant, high-quality datasets. ISS STOXX already had a well-developed biodiversity framework that closely aligned with our vision. They also offered access to leading ISS Sustainability biodiversity datasets and comprehensive models that span the entire biodiversity lifecycle, and the possibility to customize their solutions to meet our exact needs. It was a natural fit, supported by strong mutual understanding of the topic — which ultimately led to the development of robust indices.”
[1] European Securities and Markets Authority.
[2] Paris-Aligned Benchmark Indices (PABs) and Climate Transition Benchmark Indices (CTBs) were devised as part of the EU Climate Benchmarks regulation.
[3] ISS Sustainability’s Biodiversity Impact Assessment Tool (BIAT) measure quantifies each company’s impact on biodiversity through a Potentially Disappeared Fraction of species (PDF) ratio. PDF represents — from a total preservation ratio of 0% to full destruction at 100% — the potential decline in species richness in an area over a period due to unfavorable conditions associated with environmental pressures.
[4] Socially responsible investing.