Let’s say that, like millions of other investors around the world, you decide that you want to put some or all of your retirement savings into a “green investment fund.”
Such funds exclude fossil fuel companies or other investments that cause greenhouse gas emissions. “Sustainable investing” totaled $30.7 trillion in 2018, a 34 percent increase in just two years, according to the Global Sustainable Investment Alliance (GSIA).
But, you ask, what is a “sustainable investment”? An acronym used by investment advisers to describe these investments is “ESG” (Environmental, Social and Governance). That refers to assets that score high on environmental benefits, social justice and good corporate governance.
Non-profit agencies like GRESB in The Netherlands assess and benchmark the ESG performance of real assets for the investment community, providing standardized and validated data to capital markets. ESG scoring focuses heavily on the impact that an investment has on the planet, particularly the effects of climate change. Even if an investment has done a good job employing sources of renewable energy, making their buildings “green,” and recycling, does that make the investment “sustainable”?
This depends on your definition. The measure of an investment’s impact on the planet should be just one half of the investment’s sustainability analysis. The other half is what the planet is doing to the investment.
Although physical risks have not generally been included in ESG investment scoring until recently, fund managers and their investors need to understand if an investment can continue to yield attractive returns in the face of physical risks such as floods, wildfires, hurricanes, earthquakes, tsunamis, wind/tornados, extreme heat and torrential downpours.
If an asset is not resilient in the real world, can it truly claim to be sustainable?
In 2018, GRESB introduced its Resilience Module to evaluate how real estate and infrastructure companies and funds are assessing long-term trends and preparing for disruptive events and changing conditions.
Resilience investment scoring includes a company’s preparation for short-term shocks such as fires and floods and chronic stresses such as rising temperatures and erratic rainfall.
Another initiative launched in 2016 is the EU’s Task Force on Climate-related Financial Disclosures. It was established to develop recommendations for voluntary and consistent climate-related financial risk disclosures in mainstream investment filings. The task force seeks to guide companies in providing better information on their physical climate risks.
On July 10, Congress held its first ever hearing on ESG corporate disclosure before the House Subcommittee on Investor Protection, Entrepreneurship and Capital Markets.
Rep. Carolyn Maloney, chair of the committee, described ESG as “one of the most important topics in the markets right now.” Currently, however, the investor’s due diligence job is harder than it could be, because there is no consensus in the U.S. (or globally) on whether ESG disclosures should include physical risks. Congress should address this.
In a new report on this subject, “Major Risk or Rosy Opportunity? Are companies ready for climate change?” the Climate Disclosure Project looked at the state of corporate disclosures of physical climate risks. In its analysis of 500 of the world’s biggest companies, CDP found just under $1 trillion at risk from these threats.
About $250 billion of this is linked to asset impairments and write-offs as a result of both climate transition and physical risks.
The CDP report concludes that: “Inadequate information about risks can lead to mispricing of assets and misallocation of capital that can potentially lead to concerns about the stability of financial markets and their vulnerability to abrupt corrections.”
Surprisingly, another finding reveals that over the next five years, global companies estimate that they will earn more than $2.1 trillion in revenues from new businesses that address climate change. These revenues include financing of low emission products and services, and building and hardening resilient infrastructure.
“So many companies are used to thinking of only the risk side of climate change. But, here is $2 trillion of opportunity in the next five years from leaning into the transition,” says Bruno Sarda, a senior executive with CDP.
If accurate, this sum is remarkable given that asset owners have only just begun to publicly acknowledge the need for climate resilience and adaptation investments.
So, what’s the savvy “green” investor to do?
Unfortunately, there is no easy way for a fund manager or an individual investor to find out if assets in a fund are resilient and how they will perform this hurricane season or a decade hence. Stay tuned, however.
New technologies are just now being applied to these global investments that will assess both their effects on the planet and the planet’s impact on them. The emerging technology will provide:
— modeling of asset-specific, climate impact vulnerabilities
— estimation of damages and losses from floods and other hazards
— prediction of increased operation and maintenance and adaptation costs.
Once this intelligence is available at the property-level, fund managers and investors will be able to make better investment decisions.
Albert J. Slap is the President of Coastal Risk Consulting, a flood, natural hazard and climate change impact risk assessment technology company in Boca Raton. Go to www.floodscores.com.
