Beyond Net Zero

How To Mobilize Passive Investing towards Paris Alignment with a Focus on the United States

Executive Summary


  • Although many investors have made net-zero commitments to reduce greenhouse gas (GHG) emissions, the Paris Agreement encompasses more than emissions reductions, establishing goals and a vision for a decarbonized, climate-resilient, inclusive, and equitable global economy.
  • Our Paris-aligned passive investing framework considers the principles of mitigation and resilience, just transition, and do no harm. Using this framework, we analyzed the 35 largest, most popular U.S. sustainable funds and EU Paris-Aligned Benchmark (PAB) funds.
  • We found significant gaps in U.S. Paris-aligned passive funds. Few funds incorporate 1.5°C emissions pathways and a just transition in portfolio construction.
  • Many funds include fossil fuel exclusions, but most do not consider deforestation, physical climate risks and resilience, climate governance and lobbying, or a just transition. In addition, EU PAB-labeled indexes and products need to integrate robust mitigation metrics to align with 1.5°C emissions pathways.
  • Only 6 of the 21 asset managers running 35 funds expect companies to align with a 1.5°C trajectory in stewardship policies.
  • We recommend that investors, companies, and regulators encourage the growth and transparency of Paris-aligned passive products by improving the availability of high-quality data and the transparency of methodology and stewardship.


Although many investors have made net-zero commitments to reduce carbon emissions, the Paris Agreement encompasses more than just emissions reductions. It establishes goals and a vision for building a decarbonized, climate-resilient, inclusive, and equitable global economy. Climate change is not only an environmental issue but also a social issue that affects racial equity, human rights, health, access to resources, and jobs, with negative impacts disproportionately hitting the most marginalized groups. The Paris Agreement specifically calls for consideration to be given to a just transition, obligations on human rights, gender equality, the empowerment of women, and intergenerational equity.

In the United States, low sustainability rigor, or “greenwashing,” is one of the major challenges for adopting “sustainable investing,” including investments that align with the Paris Agreement. The asset management industry lacks a consistent set of standards or principles for sustainable investing, and some investors do not have confidence that products labeled as sustainable or environmental, social, and governance (ESG) are truly sustainable (Quinson 2021). Only US$48.6 billion of assets under management (AUM), or less than 1 percent of U.S. passive equity funds, consider ESG factors and criteria to align with the Paris Agreement (Bryan et al. 2020). Box ES-1 provides definitions for the passive and active investment products used in this paper.

Box ES-1 | Active versus Passive Investment Products

In active management, portfolio managers select investment products (such as stocks and bonds) with the goal of “beating the market,” or getting better returns than certain standard benchmarks. These products, which hold fewer investments, typically have larger fees to pay for their analysis and technology resources.a

Passively managed products refer to any rules-based, transparent, and investable strategy that does not involve handpicking investments to outperform benchmarks. Index investing is the purest form of passive investing and aims to match the performance of benchmark indexes.b Some investors may consider certain rules of passively managed products as active components and thus consider them as hybrid, such as factor-based smart beta funds. In this working paper, we still consider them as passively managed products using the definition above.

Sources: a. FINRA 2022; b. CFA Institute 2022.

U.S. policies and regulations can have a significant impact on sustainable investment, particularly with regard to retirement plans. Although a rule proposed by the U.S. Department of Labor in 2020 would have set barriers for retirement plans from considering ESG factors when selecting investment products, it was later revised in 2021 by the current administration to clarify that ESG factors can be considered. In addition, the revision removed a significant barrier to offering ESG-themed investments as default investment options in retirement plans (DOL 2020, 2021). It will be important to incorporate climate-related risks, opportunities, and impacts into fiduciary duty definitions in order to have a lasting impact.

About This Working Paper

The first objective of this paper is to provide a framework for Paris-aligned passive investing despite the lack of a standard Paris-aligned definition in the U.S. passive equity fund market. The framework includes guidance for specific investment criteria in passive investing products for Paris alignment across the themes of climate mitigation and resilience, a just transition, and do no harm (Table ES-1). We developed these criteria by evaluating existing Paris Agreement–related frameworks, taxonomies, data sources, and principles and by conducting expert consultations. We did not design the framework to include an exhaustive and ideal list of criteria but to be comprehensive and evolve based on the latest climate science, data availability, and best practices. In the framework, we chose to use 1.5°C pathways for criteria to better align with the Paris Agreement and widely adopted net-zero commitments by 2050.

The second objective of this paper is to analyze how existing U.S. sustainably labeled funds and EU PAB-labeled funds perform against the framework. We included a sample of the 35 largest, most popular funds measured by AUM and fund inflow and EU PAB-labeled funds. We used each fund’s prospectus, index methodology, and stewardship documentation to understand its individual fund investment strategy. We then classified the funds into the following five categories based on their investment focus and universe, and we created a set of metrics to evaluate the extent to which the funds met the criteria.

Table ES-1 | Paris-Aligned Framework for Developing Passive Equity Products



Mitigation and resilience

Greenhouse gas (GHG) emissions reductions

1. Portfolio decarbonization

  • The product should achieve annual sectoral decarbonization targets for sectors where such targets are available and must meet minimum ambition indicated by sector-specific methods for 1.5°C pathways.
  • Sectoral decarbonization targets should be absolute GHG emissions or intensity metrics based on physical output unless justifiable exceptions are provided.
  • For all other sectors combined, the index should achieve at least a 4.5% reduction in absolute GHG emissions on average per annum in line with or beyond the 1.5°C pathway for decarbonization from the Intergovernmental Panel on Climate Change.

2. Constituent decarbonization

  • The product should overweight constituent companies that set and publish validated 1.5°C aligned targets for GHG emissions reductions towards the goal of 100% portfolio coverage by 2040.

3. High climate impact sector

  • The product should maintain aggregated exposure to high climate impact sectors that are at least equivalent to the underlying investible universe.
  • High climate impact sectors include (NACE classification) agriculture, forestry, and fishing; mining and quarrying; manufacturing; electricity, gas, steam, and air- conditioning supply; water supply, sewerage, waste management, and remediation activities; construction; wholesale and retail trade and repair of motor vehicles and motorcycles; transportation and storage; and real estate activities.

4. Fossil fuel exclusion

  • The product should exclude companies that are making capital expenditures to develop new oil and gas fields, new unabated natural gas plants, new coal mines, new unabated coal plants, or coal mine extensions.

5. Deforestation exclusion

  • The product should exclude companies with one or more major deforestation incidents in the past year.

Physical climate risks and resilience

The product should overweight companies that

  • disclose the resilience of their business strategies under different climate-related scenarios (including 2°C degree or higher temperature scenarios); and/or
  • derive 50% or more of their revenue from climate-resilient solutions (according to the screening criteria outlined in the EU taxonomy technical annex for substantial contribution to adaptation activities).

Climate governance and lobbying

The product should overweight companies that meet any of the following 6 criteria for climate governance and lobbying, in proportion to how many they meet.

Climate governance

  • The company’s board has clear oversight of climate change.
  • The company’s executive remuneration scheme incorporates climate change performance elements.
  • The board has sufficient capabilities/competencies to assess and manage climate-related risks and opportunities.

Climate lobbying

  • The company has at least a Paris-aligned climate lobbying position, and all of its direct lobbying activities are aligned with this. More ambitious positions are encouraged.
  • The company has at least Paris-aligned lobbying expectations for its trade associations, and it discloses its trade association memberships. More ambitious positions are encouraged.
  • The company has a process to ensure its trade associations lobby in accordance with the Paris Agreement. More ambitious positions are encouraged.

Just transition

Workforce practices

The product should overweight companies that either

  • have commitments in line with the International Labour Organization’s just transition principles or the Business Pledge for Just Transition and Decent Green Jobs; or
  • commit to paying a living wage to all employees throughout the supply chain, even in countries without legal minimum wage requirements or where minimum wage is not a living wage.

Diversity, equity, and inclusion

The product should overweight companies that

  • have released the gender and race/ethnicity demographics of their board of directors, executives, senior management, and workforce;
  • have released a diversity, equity, and inclusion goal that can be quantified and tracked by external stakeholders; or
  • have released promotion rates, recruitment data, retention rates, and pay equity data by employees’ gender and race/ethnicity.

Do no harm

Human rights exclusion

The product should exclude companies that are found or estimated to be in violation of

  • the United Nations Global Compact principles;
  • the Organization for Economic Co-operation and Development’s Guidelines for Multinational Enterprises; or
  • the UN Guidelines for Business on Human Rights.

Controversial weapons exclusion

The product should exclude companies involved in any activities related to controversial weapons as referred to in international treaties and conventions, UN principles, and, where applicable, national legislation.

Tobacco exclusion

The product should exclude companies involved in the cultivation and production of tobacco.

Note: NACE = Nomenclature des Activités Économiques dans la Communauté Européenne (Statistical Classification of Economic Activities in the European Community).

Source: Authors.

Fund category:

  • Broad ESG (12 funds): Funds that consider general ESG factors in their selection process and have a diverse investment universe.
  • Diversified climate (5 funds): Funds that focus on climate issues and apply weighting factors on a diverse investment universe across different industries.
  • Thematic climate (7 funds): Funds that focus on specific climate-related themes (e.g., renewable and clean energy) and as a result have a sector-focused investment universe.
  • Social/impact (6 funds): Funds that focus on social outcomes or intend to generate positive social and environmental impact.
  • EU PAB labeled (5 funds): Funds that meet the minimum requirements of the EU PAB label.

Evaluation metric:

  • Aligned: The fund fully aligns with the criteria.
  • Partially aligned: The fund aligns with part of the criteria, but not all of them.
  • None: The fund did not include any of the criteria.
  • Not applicable: The criteria are not applicable to the fund.

Key Findings

Across all 35 funds, none was fully aligned with the criteria in our framework (Figure ES-1). Although EU PAB-labeled funds are the only types of funds in our sample with Paris-aligned investment objectives, the lack of fully aligned funds illustrates that most U.S. sustainable or ESG funds do not consider the Paris Agreement in their investment strategies, and Paris-aligned criteria are not innately ingrained or assumed within these funds.

Figure ES-1 | Fund Evaluation Result against the Paris-Aligned Framework by Fund Category

Notes: ESG = environmental, social, and governance; GHG = greenhouse gas; PAB = Paris-Aligned Benchmark.

Source: Authors.

Figure ES-1 | Fund Evaluation Result against the Paris-Aligned Framework by Fund Category

Notes: ESG = environmental, social, and governance; GHG = greenhouse gas; PAB = Paris-Aligned Benchmark.

Source: Authors.

Mitigation and Resilience

Few of the sustainable investing passive funds analyzed incorporate mitigation and resilience into portfolio construction. Only 17 percent, or 6, of the 35 funds analyzed incorporate GHG emissions reduction targets into portfolio construction. All 6 align with the revised EU Benchmark Regulation, but they use economic intensity targets to achieve self-decarbonization of at least 7 percent annually. However, a fund can achieve such targets without actual emissions reduction if the underlying economic metric (e.g., enterprise value plus cash) rises or by simply shifting portfolio weights from carbon-intensive sectors (e.g., utility) to less carbon-intensive ones (e.g., information technology). This type of overall approach and metric is less robust than the sector-based approach using absolute emissions targets or physical intensity targets proposed in the framework. As a result, they are rated as “partially aligned.” These funds are also the only types of funds to seek increased exposure in constituent companies that set emissions reduction targets or maintain exposure to high climate impact sectors.

A considerable number of funds include some form of fossil fuel exclusion, but most funds do not consider a deforestation exclusion, physical climate risks and resilience, or climate governance and lobbying in portfolio construction. In our sample, 71 percent, or 25, of the 35 funds include some form of fossil fuel exclusion, ranging from a coal/tar sands exclusion to outright rejection of the fossil fuel industry, but only 2 of the 35 funds include a deforestation exclusion. Twenty-one of the 35 funds fail to meet the criteria on physical climate risks and resilience, with EU PAB-labeled funds faring comparatively better by integrating the issue into portfolio construction on a partially aligned basis. Most thematic climate funds are partially aligned largely due to their investment objective to focus on sectors that develop climate solutions. Additionally, there is a lack of attention to climate governance and lobbying, which only two funds consider.

Just Transition

Although no climate–focused fund integrates the just transition theme into its portfolio construction, some broad ESG and social/impact funds do but with significant variance. Social outcome-focused funds tend to have more comprehensive frameworks that integrate working conditions; a living wage; and diversity, equity, and inclusion metrics. Nine out of 12 broad ESG funds embrace social factors in their methodology, often excluding and penalizing companies with controversies against International Labour Organization standards.

Do No Harm

Do no harm exclusions are broadly considered across all types of funds, with weapons and tobacco exclusions being the most prevalent; however, none of the diversified climate or thematic climate funds incorporates exclusions for human rights violations. There is a broad consensus among 86 percent, or 30, of the 35 sustainable investing passive funds to include weapons and tobacco exclusions. Of the 23 funds in the broad ESG, social/impact, and EU PAB-labeled categories, 91 percent, or 21 funds, consider exclusion of human rights violators.

Investment Stewardship

Asset managers often argue that beyond security selection, investment stewardship is a core component of maximizing long-term shareholder value for clients and often considers ESG risks and opportunities; however, tangible action is rare within stewardship guidelines. In the sample of 35 funds, there are 21 unique asset managers, some of whom manage multiple funds. Only around 14 of these 21 asset managers have public stewardship information available. Although asset managers publicly have reiterated their climate commitments, tangible action is rare within stewardships guidelines. Only six managers state in their stewardship policies or guidelines that they expect companies to align with climate change below a 1.5°C trajectory in alignment with the Paris Agreement.

Implications and Recommendations

  • Gaps in data availability and quality at the constituent company level can make it difficult to develop an index or products using the various criteria proposed in the framework.
  • The revised EU Benchmark Regulation, as well as its labeled indexes and products, should be enhanced to create funds that are Paris aligned across all criteria.
  • U.S. asset managers and index providers should work together to create funds that meet the criteria that we outlined for Paris alignment.
  • Financial regulators should take steps to encourage the growth and improve the transparency of sustainable investing, particularly in the United States.
  • Asset managers and index providers should provide greater transparency and better disclosures of their methodologies in prospectus and publicly accessible documents because it is not clear how ESG factors are considered and weighted in the security selection process.
  • Passive fund managers should integrate the Paris Agreement into their stewardship process and make the process publicly available.
  • Asset owners, including retirement plan administrators, should encourage asset managers and index providers to more closely align with the Paris Agreement.
  • Asset owners should expect higher numbers of tracking errors when benchmarking Paris-aligned passive products against traditional market capitalization benchmarks and consider using PABs.
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