The US state of California has passed a landmark bill requiring two of the country’s biggest pension funds to consider “climate-related financial risk” when making investment decisions.

Senate Bill 964 was passed last week. It requires the California Public Employees’ Retirement System (CalPERS) and the California State Teachers’ Retirement System (CalSTRS) to identify climate risk in their portfolios and report on that risk to the public and to the legislature every three years. The first report is due before 2020.

The two funds – which oversee $590bn (€508bn) between them – must also report their progress towards meeting the goals of the 2015 Paris agreement on climate change, as well as California climate policy goals.

They should also include a summary of engagement activities undertaken by the pension funds in connection with climate-related financial risks.

The bill was the first of its kind passed in the US, according to campaign group and co-sponsor of the bill Fossil Free California, and provided a statutory definition of climate-related financial risk.

Under the state’s new definition, climate-related risks include material financial risk posed to the fund by the effects of the changing climate. These included intense storms, rising sea levels, higher global temperatures, and economic damages from carbon emissions.

The bill also covered other financial and transition risks emanating from public policies to address climate change, shifting consumer attitudes, and the changing economics of traditional carbon-intense industries.

The bill must get the approval of California governor Jerry Brown before it can become law.

Fossil Free California, which campaigns to end financial support for fossil fuels, co-sponsored the bill with environmental advocacy organisation Environment California.

“The risk the changing climate poses to the solvency of large institutional investors, including pension funds and insurance companies, is both inevitable and unpredictable,” said Janet Cox, director at Fossil Free California. “Fund beneficiaries need and deserve the peace of mind that comes from knowing their future security is protected from that risk.”

CalPERS and CalSTRS are actively involved in a number of climate change initiatives, including Ceres and the Investor Network on Climate Risk.

Most recently, both funds were part of a coalition of investors voting for improved governance at Rio Tinto’s annual general meeting, relating to the company’s membership of lobbying organisations in relation to climate change – although this resolution was defeated.

However, both CalPERS and CalSTRS slipped down the Asset Owners Disclosure Project’s 2017 ranking of investors’ climate risk management. CalPERS was ranked 28th out of more than 300 pension funds, 19 places lower than a year before.

Investors in Europe and the UK are also facing legislation over climate change and sustainability investment issues.

This article was updated on 6 September to remove a reference to the California pension funds reporting on their portfolio carbon footprints, as this was not a feature of Senate Bill 964.