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Transition finance needs investor focus

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Global investment manager Ninety One has published the results of a survey that says  less than 20% of 300 global asset owner institutions and advisors are invested in transition finance assets.

  • More than half of the asset owners surveyed said their funds were more focused on financial return, while 40% believe climate-related investing provided lower returns.
  • ESG-branded investments are expected to surpass $50 trillion by 2050, but transition finance appears less popular.
  • Underinvestment in transition finance assets means the world will jeopardise meeting the Paris Agreement climate-change goals.

The major reasons for underinvestment in transition finance were a focus on higher returns. Ninety One’s survey also found that many asset owners were not knowledgeable about investment opportunities, but overall there was an acknowledgement of the need for helping companies finance their transition to net zero.

A major finding was the lack of investment in emerging markets. This is where the need to finance the transition to net zero is highest, along with a staggering cost. Research has shown that financing from developed nations, rather than self-financing, is a better approach to helping emerging markets transition to net zero.

Survey shows more can be done on transition finance

Ninety One, an active global investment manager, has published a report on the state of transition finance. The report is based on a survey of 300 senior professionals at global asset-owner institutions. The overall view of transition finance was positive. 

For the purposes of the survey, the firm equated investing in transition finance with investing in net zero strategies. Specifically, it asked asset owners what percentage of their assets were invested in portfolios with climate-related objectives. Almost 90% of those surveyed said less than half of their assets included any climate-related instructions.

Half of those surveyed believed that transition finance provides a major commercial investment opportunity, and 60% expected it to grow rapidly in the next three years. Despite this, only 35% said they were likely to move into the arena in the next year, 20% said they were researching opportunities, and 8% were building capabilities to invest in the category.

Among those that did have climate-related targets, almost half set them at the portfolio level, and only 28% set them at the asset level. Emissions reduction was the most common climate-related type of target, followed by climate risk. There were several reasons cited for this underinvestment in financing energy and climate transition. 

All hands on deck needed to overcome barriers 

The barriers identified to investing in transition finance do not appear to be insurmountable. The development of policy in the form of carbon pricing can help provide a more accurate return assessment. Setting standards and regulation to improve transparency and disclosure would help identify transition focused companies.

A majority (55%) of those surveyed were primarily focused on financial return. As such, sustainability and impact would have little value for portfolio managers at these institutions. Providing a link to positive returns by investing in transition products would, of course, change their mind.

Related to the above is the idea that climate-related investing provides lower-than-market returns. Convincing 40% of the asset owners who believed this appears simple: Morningstar reported that over longer time horizons, 53% of US equity ESG funds performed in the top half of their category.

A lack of suitable investment opportunities was the most commonly cited barrier to investing in transition finance.  Equally common was the difficulty in measuring and quantifying progress on climate-related strategies.

One area which scored the lowest as an investment priority was investing in transition in emerging markets, which is where it is needed the most.

Emerging market financing urgency and cost will keep rising

A small minority of the survey respondents were invested in emerging market transition finance. Of the 16% who were invested there, however, there was high conviction of their strategy. Even among the rest, almost two-thirds believed the sector would see rapid growth in the near term.

Based on data from Standard Chartered (LON:STAN) $94.8 trillion is needed by emerging market economies to transition to net zero. The bank’s research found that self-financing by these countries, largely from higher taxes, would reduce consumption by $79.2 trillion by 2060. The World Economic Forum’s Global Risks Report 2022 lists climate action failure as the number risk over the coming decade.

Financing emerging markets’ transition to net zero by developed markets appears to be a more efficient option. STAN’s research shows that emerging market consumption would rise by $104.5 trillion by 2060, with a further $3.9 trillion boost to developed market GDP as well.

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