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Investing for change

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7 June 2019

Jon Forster discusses ways to construct a portfolio with climate change in mind.

Climate change is real but how is that reflected in the portfolio construction of your clients’ portfolios? Impax Environmental Markets plc (IEM) co-manager Jon Forster shares two ways to consider climate change when constructing a portfolio.

I think most people now accept that climate change is happening, but the extent to which the risks that it creates are reflected in portfolio construction is harder to ascertain.

In the last few years discussion of climate risk, in relation to portfolio management, has certainly become more prevalent. For instance, sectors where assumptions regarding future price and volume have been made without considering the impact of emissions regulation or carbon taxes, are clearly at risk.

The financial impact of climate change is significant.  In the United States alone there were 30 weather and climate related disasters that cost over $1 billion each between the start of 2017 and the end of 2018.  In contrast there were 31 events in the ten years between 1980 and 1990 (Source: the National Oceanic and Atmosphere Administration NOAA).

At Impax the impact of climate change has been a key component of our investment philosophy since we were founded in 1998. Yes, climate change needs to be considered as a risk factor in portfolio construction, but it also presents opportunities for active long-term investors.

Mitigation – avoiding problems

Investing in companies that enable us to mitigate climate change by reducing our environmental impact, such as energy efficiency, renewable energy, methane reduction and agricultural efficiency.

Pulling out energy efficiency as an example here, we see growth driven by pure economics not subsidies. In addition, tightening efficiency regulations are accelerating growth. We are seeing rapid growth across a range of verticals, including new areas like the industrial internet of things and electric vehicles (EVs).

Adaptation – coping with a more volatile climate

Investing in companies that enable us to adapt to meet the challenges of a changing climate, such as water infrastructure, grid strengthening, back-up power and food production.

Cape Town, with its population of circa 4 million people, suffered a period of drought that meant the City’s main reservoir was close to zero in March 2018. As a result, residential water use was cut from around 120 litres per person per day in 2015 to 50 litres at the start of 2018. With drought events more prevalent today than in the past, officials now need to invest in a range of measures including conservation and leak detection. In contrast flooding and storms represent different priorities, where protection and clean up are more pressing. The application of technology to cope with aggressive climate events and variable power generation and the development of more robust infrastructure, we believe, offer attractive long-term returns.

Climate change is real. There are risks that need to be considered but there are also opportunities that can be captured.

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