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Parnassus Digest - November 2013

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Addressing Carbon in Equities

In this Parnassus Digest, Maria Kamin, ESG Research Manager, discusses how Parnassus Investments approaches carbon in its portfolios.

Parnassus Investments supports President Obama’s plan1 to address climate change. Part of his plan is to reduce carbon pollution from the largest single source in the country, electric power plants. In September, Parnassus joined a group of significant investors with over $900 billion in combined assets under management and prominent companies that publicly supported new rules2 proposed by the Environmental Protection Agency (“the EPA”).

Electric power plants are responsible for 40% of the United States’ total carbon emissions. Yet, before the EPA proposed these rules, there were no federal limits on the amount of carbon that plants could emit. The EPA’s rules seek to change that by limiting the carbon emissions at new power plants. Plants will instead capture and use the emissions, seeking to benefitting their operations and keeping the otherwise wasted carbon out of the atmosphere.

From Parnassus Investments’ perspective as an investor, new rules are necessary. The proposed rules help the populace by targeting the largest individual source of carbon pollution in the country. More importantly, new rules for existing power plants, which are expected next spring, could reduce emissions in the sector by 25%. Climate change needs to be addressed, and we appreciate the President’s leadership on this important issue.

Trillions of dollars worth of like-minded investors share our concern with climate change. The Investor Network on Climate Risk (INCR) alone represents investors that in aggregate manage more than $11 trillion3. INCR members have joined with investors internationally – nearly 300 managing over $20 trillion – to call for action on climate change by governments around the world.

Publicly traded companies are also doing extraordinary things to mitigate climate change. For example, Applied Materials (AMAT)4, one of our holdings, sees economic opportunity in using its core strength – printing on tiny surfaces using nanotechnology – to address climate change through renewable energy. This Bay Area company supplies the global solar industry and has multiple technologies in development to meet the long-term needs of different solar markets. It also provides energy-efficient glass. Parnassus has held this company in our portfolios for several years. Our significant position is one way we are supporting renewable energy in our portfolios.

Google (GOOG)5 is another good example from our portfolios. With an amazing list of environmental positives, Google has been praised by numerous third-parties, ranging from Fortune Magazine to Greenpeace. The company reports investing over $1 billion in renewable energy projects, far in excess of its own significant energy needs. The total capacity represented by Google’s renewable investments is, as put by GigaOm, “a Hoover Dam’s worth – or 2 GW – of clean power”.

Climate change, and therefore carbon emissions, is one of the Environmental, Social and Governance (ESG) criteria we incorporate in our investment decisions.6 Applied Materials and Google are good examples of companies that do very well on the ESG issue of climate change. While there are no perfect companies, these are investments that we, on balance, are proud to hold.

Recognizing the increasing urgency to react to climate change, we have been considering what more we can do as investors. We have participated in the Sustainability Accounting Standards Board (SASB) initiative to develop standards for sustainability reporting for relevant industries. We have also encouraged sustainability disclosure at multiple portfolio companies and voted related proxies. At our investment team’s summer offsite meeting, we formalized our procedures relating to carbon emissions, adding a high-level committee’s oversight across the Parnassus Funds. We also elected to have Trucost, an independent research provider, regularly measure carbon intensity in our portfolios.

Trucost measures carbon intensity, which is the ratio of a company’s total carbon emissions over revenue. In the numerator, Trucost includes a company’s direct emissions and indirect emissions, which international standard GHG Protocol defines as Scope I, II and III emissions. When a company doesn’t report its own emissions, Trucost estimates them based on their knowledge of the industry and the company’s business activities.

Trucost’s carbon assessment of Parnassus’ U.S. equity funds is shown in the Carbon Intensity Graphic on the prior page7. The graph represents our holdings for the quarter that ended June 30, 2013. As can be seen in the graph, the funds are all below their benchmarks. While it may not always be the case that the benchmarks exceed the funds, we chose this measurement date without prejudice to reflect our approach to stock selection.

Parnassus considers other measures of carbon, in addition to Trucost’s methodology. Companies in the same industry can differ on carbon when their physical assets differ from those held by competitors. Certain companies can also do better by working on their absolute carbon footprint. For example, installing renewable capacity, improving energy efficiency of operations, and purchasing offset credits can all lower a company’s total emissions and carbon intensity. Some ambitious companies, like Google, aim for total net zero carbon emissions, while companies like Applied Materials indirectly assist many others by facilitating solar energy.

We are pleased with how positively the Parnassus Funds compare to their benchmarks on carbon intensity. We believe we are delivering a strong product for investors, one that delivers good long-term fundamental performance, while also investing in responsible companies. Our funds are traditional investment vehicles, in that they do not eschew investments by industry8. This is relevant because it means that our funds achieve reduced carbon intensity relative to their benchmark indexes, while including traditional fossil fuel investments.

For investors whose values necessitate investing in lower carbon portfolios, or portfolios without fossil fuel companies entirely, we can deploy an appropriate strategy via separately managed accounts.

If you would like to further support the management of climate change in the U.S., please consider adding your voice in support of the EPA’s proposed power plant regulations here9. You can also reach the Parnassus ESG team at ESG@parnassus.com, if you have any questions regarding our Environmental, Social and Governance (ESG) practice.

We thank you for your investment in the Parnassus Funds.

1http://www.whitehouse.gov/share/climate-action-plan
2https://www.ceres.org/files/bicep-files/investor-carbon-pollution-standard-support-letter/at_download/file
3http://www.ceres.org/investor-network/incr
4As of September 30, 2013 AMAT represented 5.4% of the Parnassus Fund, 4.4% of the Parnassus Equity Income Fund, 3.4% of the Parnassus Mid-Cap Fund, 4.9% of the Parnassus Workplace Fund and 3.9% of the Parnassus Asia Fund.
5As of September 30, 2013 GOOG represented 2.2% of the Parnassus Equity Income Fund and 1.7% of the Parnassus Fixed-Income Fund.
6The Adviser conducts fundamental research to determine a company’s financial health and its business prospects, and also takes environmental, social and governance factors into account in making investment decisions. The Funds seek to invest in companies with positive performance on Environmental, Social and Governance (“ESG”) criteria. The ESG factors the Adviser evaluates include environmental impact. Carbon is a cross-sector issue that provides risks and opportunities for equities in varying degrees. Examples of carbon risk to issuers may include costs associated with stranded assets, damaged physical assets, regulation, mitigation, brand management, time-to-market delays, unforeseen losses, and other risks. No company is perfect in all ESG areas, but the Adviser makes value judgments in deciding which companies best meet the criteria.
7Parnassus Asia Fund and Parnassus Fixed-Income Fund were not included in the graphic above, The Parnassus Asia Fund measured significantly below its benchmark; however it was not fully invested at the time of this report. It may be included in the future, when it is more representative. The Fixed-Income Fund was not included, as it invests in debt, rather than equities. While we do not measure carbon in debt portfolios, this fund does have carbon-relevant investments, including a “green” bond. This IFC-issued bond supports climate change-related projects in developing countries.
8We do not invest in companies that derive significant revenue from the following activities: manufacture of alcohol products; manufacture of tobacco products; direct involvement with gambling; manufacture of weapons; generation of electricity from nuclear power; business involvement with Sudan. The majority of these screens have been applied to the Parnassus Funds since the firm’s inception. The Sudan screen was added in 2006 when the international community recognized the Darfur region conflict as genocide.
9http://www2.epa.gov/carbon-pollution-standards/how-comment-2013-proposed-carbon-pollution-standard-new-power-plants.

The views expressed in this Parnassus Digest are subject to change at any time in response to changing circumstances in the markets and are not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally, or the Parnassus Funds. Investment return and principal value will fluctuate, so that an investor’s shares, when redeemed, may be worth more or less than their original cost.

Before investing, an investor should carefully consider the investment objectives, risks, charges and expenses of the Funds and should carefully read the prospectus or summary prospectus, which contains this information. A prospectus or summary prospectus can be obtained on the website,www.parnassus.com, or by calling (800) 999-3505.