Climate change and capital markets: A global opportunity

Tackling the global social, environmental and economic risks presented by climate change will require one of the biggest public-private partnerships ever seen. Aled Jones, deputy director of the University
of Cambridge Programme for Sustainability Leadership, and convener of the P8 summits, writes for conexust1f.flywheelstaging.com on the role of pension funds in shaping new investment frameworks encompassing climate change.

The scientific evidence is now overwhelming that climate change presents very serious global social, environmental and economic risks and it demands an urgent global response. The recent economic crisis demonstrates the need to understand risk, and the opportunities now presented by the stimulus packages to rebuild ‘green’ economies should not be missed. Tackling climate change must be seen as a long term economic strategy.

The publication of the Intergovernmental Panel of Climate Change (IPCC) fourth assessment report and the previous publication of the Stern Review on the Economics of climate change have demonstrated the urgent need for policy development to bring about a transformational change in the way energy, infrastructure, transport and land use is managed and therefore the investment structures around these assets.

In addition a large investment in adaptation measures is now needed to deal with the impacts of climate change that are already unpreventable. In December 2009 world leaders will gather under the United Nations Framework Convention on Climate Change (UNFCCC) to agree an international climate change framework that should come into force in 2012.

The scale of the change that is required in today’s society to respond to the challenge of climate change is transformational. The current flow of ‘value’ through our economic system is inadequate for capturing long-term trends and ‘externalities’. Therefore a new approach to measuring and managing the externalities is required.

The business drivers behind this transformation are complex and involve a combination of external pressures, leadership, business culture and innovation. However, it is clear that the transformations that have occurred take place when the companies in question stop trying to find the ‘answer’ elsewhere and decide to take a leadership role in responding to what is a clear risk or opportunity for their business. These changes have been led by the core revenue-creating areas of the companies rather than by a philanthropic desire to be ‘sustainable’.

In order to address climate change on a scale large enough to have an impact commensurate with the severity of the climate problem, the global financial markets need to change the way they do business to ensure that ‘climate value’ is embedded in the financial decision making process. While there are existing mechanisms for environmental investment, the scale of the challenge posed by climate change is potentially several orders of magnitude larger than what they can address.

Two of the most powerful groups of investors today are the world’s pension funds and insurance companies, and they will have a critical role in shaping the new investment frameworks currently being negotiated as part of the UNFCCC process.

On November 5-6, 2007, July 15-16, 2008 and March 25-27, 2009 the University of Cambridge Programme for Sustainability Leadership, under the patronage of HRH Prince of Wales, brought together leaders from some of the world’s largest public pension funds and sovereign wealth funds with key experts on climate change. The pension funds which attended the P8 Summits collectively steward over US$ 3 trillion, and they lead a peer group of managers stewarding over US$ 10 trillion. Pension funds have a unique role in the investor world as their focus is inherently long term and measured in decades.

The ClimateWise Principles were launched in 2007 by HRH Prince of Wales. Over 40 global insurance companies have now signed up to these principles which set out how the sector could respond to the challenge of climate change including engagement with the policy makers and the investments under management. All signatories to the Principles are required to report annually against them and an independent review of those reports in conducted.

The mutuality of interests from these groups, and across the finance sector, could have a disproportionate impact on public policy. The need to demonstrate real commitment to investment, and the current barriers that exist in making those investments, is key to influencing policy makers. Following the March 2009 P8 Summit hosted by the World Bank, the State of California has announced that it will invest $300 million into World Bank Green Bonds. These
types of partnerships between private and public sector are an important part of scaling up the investments, managing the risks and enabling the transformational change required.

There is no one ‘silver bullet’ technology and there is no one ‘silver marksman’ in either government, finance or business – we all need to do this together if we are to have a chance of achieving a low climate risk economy. We require the biggest public-private partnership ever seen. It is now up to investment managers to engage in this space to ensure that the policy frameworks agreed as part of an international deal in Copenhagen (and beyond) deliver the flows of
capital envisaged and the necessary market conditions to generate returns on those investments.