Harnessing real-world impact via active transition investing
A climate change investment strategy should have a dual objective – achieving meaningful climate impact alongside robust financial returns
CLIMATE change is the paramount challenge of our era. It has prompted shifts in behaviour, and inspired concerted action.
Governments worldwide are enacting regulatory measures, such as carbon taxes, subsidies for electric vehicles (EVs), and plans for green infrastructure development. Businesses are committing to net-zero emissions, setting science-based targets, and encouraging their supply chains to adopt more sustainable practices. Consumers increasingly favour sustainable products, and are altering their spending patterns accordingly.
Meanwhile, some investors are advocating for action, heightening their focus on climate-related risks and setting minimum climate standards, which in turn influences portfolio allocations.
Although these transformations pose risks to asset prices, we recognise that they also herald a unique investment opportunity for our generation.
We advocate for a climate strategy that yields both environmental and financial returns, moving beyond traditional approaches. Generally, strategies focused solely on low emissions often rely on historical data without adequately accounting for shifts in business models or the tangible impacts on the environment.
Similarly, while green bond strategies contribute to funding eco-friendly projects, a strategy exclusively centred on green bonds may suffer from limited diversification, lower yield return and extended durations.
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Such traditional methodologies do not sufficiently address the physical consequences of climate change, nor do they focus adequately on adaptation. Current policies place us on a trajectory towards a 2.4 degree Celsius increase in global temperatures, a scenario corroborated by our climate analysis. This warming path is likely to exacerbate weather volatility and temperature extremes, affecting both society at large and asset values.
Crafting a solution
At the heart of a favourable solution is the conviction that climate outcomes should prioritise real-world emissions reduction, support the transition to a low-carbon economy, and facilitate adaptation to the inevitable impacts of climate change. Every investment decision should be made through a climate lens, necessitating a bespoke framework. This approach, coupled with a global opportunity set and a strategy focused on best ideas, is designed to yield compelling returns and income.
Climate transition in Asia will likely be core to the outcomes that are achieved on a global level considering the size of Asia’s population, projected economic growth, exposure to higher emitting industries, and the opportunity to potentially leapfrog high-emitting technologies and adopt low-carbon solutions. Asian companies are often national, regional or even global leaders in their respective industries, which could translate to meaningful impact when they adopt more sustainable trajectories.
Covering the global universe, the strategy centres on identifying and investing in ambitious companies that are leading the charge in their respective industries. These trailblazers are making significant strides in real-world decarbonisation, disrupting traditional business models, pioneering innovative technologies, and responding proactively to evolving consumer demands. By aligning with such leaders, investors may capitalise on the growth of the climate market and achieve superior performance.
Three types of companies are worth a look – those in high-emitting sectors that are setting the standard for emissions reduction; innovators who are developing the technologies and products essential for decarbonisation efforts; and entities that help societies adjust to the impacts of climate change and contribute to global climate resilience.
By carefully selecting companies that align with these themes, investors may seize a significant growth opportunity and contribute meaningfully to the efforts against climate change.
Fixed income instruments, including green and municipal bonds, are pivotal in channelling funds towards projects aimed at enhancing climate resilience. A comprehensive fixed income strategy should span various segments – investment-grade, high-yield, and emerging market debt.
An additional nuance within the Asian bond universe is the presence of large state-owned enterprises that are focused on delivering policy objectives instead of solely profit, allowing bond investors the opportunity to lend to issuers that are involved in national infrastructure projects that are part of the government’s strategy to move towards a low-carbon economy.
We currently see the opportunities in Asia in the renewable energy space, EVs and its corresponding value chain, as well as large corporates that are adopting more sustainable ways of manufacturing their products. We expect the potential pipeline from Asia to continue to grow, and could span a wide variety of opportunities including low carbon materials production and climate adaptation.
Active company selection
Selecting the right theme is merely the beginning. Active company selection becomes crucial in ensuring that investments genuinely enhance the portfolio’s value.
For credit investors, the application of environmental, social and governance (ESG) standards across all issuers requires careful consideration, especially given the disparities between high-yield and investment-grade issuers. High-yield issuers – often smaller or newer companies – may not have the luxury of dedicated ESG teams, established green-bond frameworks, or the capacity to generate comprehensive sustainability reports. Consequently, companies genuinely committed to sustainability might be overlooked due to their inability to showcase their ESG credentials prominently.
A recent example is Ardagh Metal Packaging, a US-listed global producer of infinitely recyclable metal drinks cans. Until recently, this company lagged in ESG disclosures despite its strong alignment with sustainability, particularly within the circular economy and waste reduction sectors. In 2022, its recycling initiatives were estimated to have avoided 3.7 million tonnes of carbon dioxide-equivalent emissions compared to using virgin materials.
This case highlights that ESG assessment should transcend mere box-ticking; there is no substitute for thorough research. Investors adept at identifying firms with commendable ESG practices, albeit with limited disclosure, stand to gain by investing ahead of the curve, before enhanced transparency garners wider market recognition.
A promising landscape
The future of climate change investing looks bright, buoyed by the escalating global emphasis on environmental sustainability. Despite concerns, we maintain that the burgeoning demand for climate-related investments will not alone lead to overvaluation. The arena of climate transition presents a vast and perpetually evolving landscape of opportunities, far from being exhausted by current interest levels.
Most importantly, we believe a climate change investment strategy should have a dual objective – achieving meaningful climate impact alongside robust financial returns. This approach transcends mere trend-following. It is about pinpointing and supporting innovative companies that lead the charge in industry transformation and real-world decarbonisation efforts.
This strategy opens the door to a wide spectrum of opportunities, enabling investors to engage with ventures that are not just promising in terms of returns but are also pivotal in the global transition to a more sustainable future.
It is imperative to curate a well-balanced portfolio encompassing leaders in emissions reduction, innovators in technology, and contributors to climate adaptation. This diversified strategy ensures resilience against potential overvaluation in any single region, sector or asset class by spreading exposure across the varied facets of climate transition.
The writer is investment director of fixed income, abrdn
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