Wealth managers and their clients are increasingly becoming involved in a dialogue about the impact of climate change on their asset allocations and underlying investments.
Held in the Egyptian coastal resort of Sharm El-Sheikh, COP27 concluded with much homework and little time, according to UN secretary-general António Guterres. Standing on the precipice of COP28 in Dubai, the urgency of addressing climate change looms larger than ever. For investors managing their portfolio for the next generation, this has investment implications that go beyond the next few years' earnings prospects.
First, if greenhouse gas emissions are to fall by more than 80 per cent by 2050 — assuming we can achieve that — all sectors will be impacted. Beyond the obvious consequences for the power and automotive sectors, all entrepreneurs and consumers will have to contend with the upcoming changes in electricity market emissions disclosure or industrial regulation.
Second, for investors concerned about their own footprint, the emissions associated with their investment portfolio are likely to exceed their operational emissions. As an example, for the financial institutions that publish them, the emissions associated with their investments typically represent more than 90 per cent of the overall footprint. That doesn’t mean that all high net worth families will end up with a similar emissions profile, but it does imply that portfolio emissions cannot be neglected in the context of emissions reduction targets.
In that context, what will be the consequences of the different areas in which we hope to see progress at COP28?
Global stocktake
The meeting marks the end of the stocktake review initiated in Glasgow two years ago, and the latest synthesis report reiterates a stark truth: the current commitments fall far short of what’s required to meet global warming targets of 1.5⁰C or even 2⁰C. The report clearly states that the window for action is quickly narrowing.
As a result, there is an urgent call for heightened ambition in the targets set by countries — the so-called ‘Nationally Determined Contributions’. It is likely to lead to commitments by other stakeholders both in the private and public sectors. The recent regulatory backtracking could soon be reversed as a result.
Convergence between the climate and nature agenda
The nexus between climate and nature cannot be overstated — think of the impact of land usage on overall global emissions, for instance. COP27 witnessed significant strides in aligning the climate and nature agendas, and COP28 is likely to build upon this momentum, leveraging initiatives like the Taskforce on Nature-related Financial Disclosures (TNFD) and the Global Biodiversity Framework.
Many companies have started planning around those issues in preparation for upcoming regulation. The goal set during COP15, “to protect 30 per cent of Earth's lands, oceans, coastal areas, and inland waters by 2030,” could well be reiterated during COP28, and have consequences on how land is used over the medium term.
Urgent adaptation roadmap
A global goal on adaptation was agreed in 2015, but the following decade has seen policies developed mainly on the mitigation side. A new framework for adaptation is expected at COP28, with concrete targets and financing plans. The latest UN Adaptation Gap Report glaringly exposes the underfunded and underprepared status of adaptation projects. For investors, this is an opportunity to invest early, as the latest temperature data leaves no doubt about the need for adaptation measures.
End of subsidies and specific sector target
The pressure continues to accelerate implementation and take concrete steps to phase out fossil fuels. While the end of fossil fuel subsidies is unlikely to be declared at a COP chaired by an oil company's CEO, we could see discussions on specific targets or amplifying rhetoric against counterproductive subsidies in the sector.
According to the IMF, the amount spent on those subsidies is higher than all of the subsidies to the renewable energy sector combined. They represent a staggering 7 per cent of global GDP and phasing them out would have wide-ranging consequences for the companies or consumers who receive them.
Carbon pricing
Carbon pricing is a keystone in the fight against climate change. While there has been significant progress at the national level, we now have a multiplicity of systems, with only a limited scope. The ineffectiveness of the multiplicity of approaches was highlighted in a recent report by the World Trade Organisation and calls for a comprehensive global dialogue on this critical issue.
Carbon pricing schemes covered 5 per cent of global emissions 12 years ago and now have 23 per cent of global emissions in scope. This is a steep rise, but it still leaves the majority of emissions uncovered. We can only expect this number to go up.
Simultaneously, the carbon offset industry has been heavily criticised for lack of transparency — if not additionality — and we expect any claim to some level of ‘net-zero’ status to become increasingly harder to demonstrate. As emissions are increasingly taxed and reduction plans harder to push, the price of a tonne of carbon will continue to gain importance as an economic variable.
In conclusion, investors should expect a continuation of the trend we have seen since the Paris Agreement was signed. Uneven and insufficient progress, but progress, nevertheless. Any significant regulatory backtracking is unlikely and could only be a short-term reprieve on what constitutes a global megatrend that will continue to impact asset allocation decisions everywhere.
Advisers and wealth managers should be ready to face questions on this issue as it is likely to continue to impact both individual consumption patterns and investment portfolios through carbon pricing, regulation and even weather patterns.
Victoria Leggett is head of impact investing at Union Bancaire Privée (UBP)
