The annual climate summit in Egypt in November produced a mix bag of results for the world’s efforts to meet the Paris Agreement’s core goal of restricting global warming to well below 2 degrees Celsius above pre-industrial levels, generating the usual ‘good COP, bad COP’ verdict.
However, there were some notable wins, particularly in future funding for emerging markets with the creation of a ‘loss and damage’ fund. There was also wider recognition that faster adoption of renewables technologies is needed to support future emission cuts.
This bodes well for investing in climate-themed equity funds that can offer up to double-digit returns, plus bespoke green bonds whose proceeds are used to directly fund climate-related projects, Rouffiac says.
“Mitigating climate change through reducing carbon emissions will need coordination at a global level,” says Rouffiac, portfolio manager with Robeco Sustainable Multi-Asset Solutions.
“Political pathways and investments in new technologies along with changing corporate and consumer behavior are creating opportunities for investors to participate in the transition.”
“The recent energy crisis has accelerated commitments to renewable power generation and renewable technologies, which are becoming more cost competitive. According to the International Energy Agency (IEA), the estimated market size of cleantech is expected to grow to USD 870 billion by 2030 under the net-zero scenario.”
“Growth in wind and solar is expected to average more than 10% per year over the next decade, while the size of the battery market is estimated to grow at a 33% annualized rate. Geographically, North America and Asia-Pacific are leading the way, but the recent geopolitical events in Europe have shifted the focus towards a faster development of green technologies there, too.”
Since the Paris Agreement was signed in 2015 – coinciding with the launch of the UN’s Sustainable Development Goals (SDGs) – investors including Robeco have offered products that can tap into renewable energy, the technology that powers it, and the SDGs themselves. The Net Zero Carbon Initiative and their related investor alliances launched in 2020 have further boosted this drive.
The rise of funds
Decarbonization has since become the principal theme through which many investment strategies specifically target net-zero pathways, using Paris-aligned benchmarks as a means of judging their success. Most sustainable investing strategies across the world now include some sort of net-zero commitment as standard.
“Assets into funds with climate-related mandates have grown substantially, reaching USD 408 billion at the end of 2021, according to Morningstar, with almost half of the assets under management in climate solutions and clean energy/tech funds,” Rouffiac says.
“These offer higher exposure to companies that are developing solutions to help reduce carbon emissions or indeed invest directly in the renewable space like wind and solar, energy storage (batteries), and electric vehicle technologies.”
“Those themes have exhibited good long-term performance, with 10-year annualized returns at the end of November ranging between 10% and 16%, relative to 10% for the global equity index.”
“Higher valuation multiples at segments of the renewable energy space could pose concerns for investors in the short term, but the expected structural growth on offer should be supported by regulatory forces and the need for a more diversified energy supply ecosystem.”
Source: Morningstar Direct. Morningstar Research. Data as of December 2021
Targeting sustainable debt
The sustainable debt market offers a particularly pertinent investment opportunity, through green bonds which specifically target environmental projects that can often make a direct impact on the ground.
“Despite the challenging market environment, the sustainable debt market has grown to USD 4.5 trillion at the end of the third quarter, with emerging and frontier markets accounting for USD 624 billion based on the latest IIF Sustainable Debt Monitor,” Rouffiac says.
“Green bonds which finance positive environmental impact projects constitute USD 1.6 trillion, or approximately 0.5% of the total global bond market universe.”
“Although the composition of the green bond market is tilted towards European issuers and higher exposure to corporate bonds relative to the traditional Global Aggregate Fixed Income Index, a recent survey by the World Bank indicates growing appetite for issuance of sovereign green bonds by emerging markets looking to finance climate action.”
“The main impediments have been the lack of frameworks and a better understanding of the market structure, demand and pricing. On the other side, liquidity considerations, benchmarking the yield curve and best practices are top of investors’ minds when looking to mobilize private capital towards financing the transition in less developed economies.”
Closing the gap
Ultimately, keeping this mobilization going will be crucial to tackling global warming, when temperature rises are currently running ahead of the upper target of 2 degrees Celsius by 2100.
“COP27 highlighted that political ability is key to shaping the balance between climate ambition and implementation,” Rouffiac says. “In the long run, achieving energy security means investing more in green technologies and climate solutions to close the gap between ambition and implementation.”
“More cost-competitive renewables and a growing green bond market should provide investors with opportunities on the path to net zero. Fine-tuning between climate integration, liquidity and risk/return considerations is key for investors when assessing their allocations to the space.”Read the full monthly outlook here