Today’s CIO Weekly Perspectives comes from guest contributor Sarah Peasey.
Following last November’s meeting in Glasgow, COP27, the 27th U.N. Climate Change Conference of the Parties to the Paris Agreement on climate, is now underway in Sharm El Sheikh, Egypt.
One thing is for sure: The weather at the conference will be warmer than last year. It feels a bit like an unwelcome metaphor.
COP Half Full: The Optimism of COP26
We left COP26 feeling that the “COP was half full.”
A coalition of 190 countries and companies had agreed to “phase down” coal power and end support for new plants. More than 100 countries representing around 85% of the world’s forests pledged to halt deforestation by 2030.
On finance and investment, the Glasgow Finance Alliance for Net Zero (GFANZ) established a network of 450 institutions, managing a total of $130 trillion and pledging net-zero emissions by 2050, providing an industry-wide umbrella organization that built upon progress already made by the Net Zero Asset Managers Initiative (NZAMI) and the Net Zero Asset Owner Alliance (NZAOA). In addition, Article 6, the final outstanding piece of the Paris Agreement, was finally completed with an agreement on a framework for global carbon-offset markets.
This was all achieved as the world emerged from a pandemic that had caused the worst recession for 70 years, against a background of rising geopolitical tensions and protectionist economic policies.
It’s Been a Difficult Year
Since then, some of the water in our half-full COP has evaporated.
In Glasgow, 193 countries vowed to put forward more ambitious emission-reduction targets. Only 24 have submitted updated Nationally Determined Contributions (NDCs) since COP26, all of which make only a very limited contribution to closing the 2030 emissions gap.
Data from the recent emissions gap report from the U.N. Environment Programme (UNEP) suggests that the G20 is not on track to achieve its NDCs to emission reduction, and that the nations of the world have reduced their projected greenhouse gas emissions for 2030 by just 1%—when a 45% reduction is needed to keep a 1.5°C rise in global temperature a reality. Estimates from the report suggest that, even with full implementation of formally submitted NDC targets, the world could be on course for 2.4°C of warming.
What more needs to be done? Climate Action Tracker calculations suggest that, to meet 2030 targets, deforestation must be reduced 2.5 times faster than the current rate, unabated coal use for electricity generation must be phased down six times faster, and decarbonization of cement production needs to happen 10 times faster.
And if the economics and geopolitics of all this was complex a year ago, the Russian invasion of Ukraine hasn’t exactly made things simpler. One lamentable impact of the crisis is that coal-fired power stations are being reopened in Europe to make up for lost natural gas imports.
Low Expectations Heading Into COP27
Given that background, how do we see COP27 playing out?
The African location is expected to put greater focus on the question of climate financing for historically marginalized communities and emerging markets. The developing world has long pointed to the injustice of rich nations that have exploited fossil fuels for decades while telling poorer nations that they can’t follow the same path.
Unfortunately, while this is a vital part of the debate, it’s also one of the most controversial. At COP26, developed nations increased their climate finance commitments to the developing world—but those commitments didn’t even cover similar, undelivered commitments made since 2009. Pre-COP27 technical discussions on funding for climate-related loss and damage have already been characterized by discontent. Agreement on how rich countries should contribute to poorer countries appears unlikely given the tough budgeting questions and cost-of-living crises that everyone now faces at home.
The GFANZ network also looks a little threadbare. Its committed capital has risen to around $150 trillion, but some banks have threatened to pull out over legal concerns about strict targets on phasing out fossil-fuel financing. GFANZ is due to present decarbonization frameworks for companies at COP27. It remains to be seen whether it can use the conference to get back on message.
Looking for Progress
Notwithstanding these difficulties, there could be progress at COP27.
We think the conference could establish a coalition on biodiversity to encourage wider use of frameworks for reporting and target-setting, such as the Taskforce for Nature-related Disclosures (TNFD) and the Science Based Targets for Nature (SBTN). This, together with progress at the biodiversity-centered COP15 in Montreal later this year, could galvanize action on deforestation, agriculture and marine ecosystems—all important in themselves, but also critical pillars of the drive for 1.5°C. Getting a legally binding, Paris-style biodiversity treaty out of COP27 is much less likely, but not impossible.
We also see some potential for success in setting metrics, goals and finance targets for climate change adaptation, in establishing a network to assess and set aside funds for climate-related loss and damage, and in ironing out some of the wrinkles in the Article 6 carbon market mechanisms.
Moreover, we are still building on substantial recent progress. More than 90% of the world’s 3,400 largest companies have a plan to achieve zero-carbon emissions, for example. More than 350 aim to achieve net zero this decade, and almost 1,400 by 2040.
In the International Energy Agency’s (IEA) latest World Energy Outlook, the Stated Policies Scenario reached the encouraging conclusion that, even with uncertainty around prevailing policy settings, it “sees a definitive peak for fossil fuels.” Coal demand is estimated to peak this decade, natural gas by the end of the decade, and oil by the mid-2030s.
Even the war in Ukraine reinforces COP27’s long-term aims, making renewable energy a strategic as much as an environmental imperative. Right now, faced with an emergency, attention and capital are flowing back to defense and fossil fuels. But the cost-of-living crisis unleashed by the conflict has put energy sustainability firmly onto the kitchen-table agenda. Energy independence, which is attainable only with major investment in renewables, is now a mainstream political priority: The U.S. Inflation Reduction Act (IRA) is only the most significant of several pieces of energy transition-supporting legislation to have passed in the run-up to COP27.
Climate legislation and initiatives like COP27 put investors at the center of the energy transition. After all, according to Bloomberg New Energy Finance, average annual investment in the transition between 2026 and 2030 needs to be six times greater than it was in 2021.
But, in our view, if 2022 has taught the investment community anything as they make their way to COP27, it’s that pragmatism is a key ingredient in the transition.
That might mean temporary compromises with economic and political reality: Some transition technologies will be deprioritized until the energy shortage abates and markets have normalized again.
It might also mean rethinking what qualifies as a “green” investment. For example, meeting transition objectives requires much more investment in the extraction and production of the metals used to build renewable-energy infrastructure. And while we believe companies that are already on a path to net-zero emissions present generally attractive risk profiles, we also recognize the need to stay invested in high-emitting companies when they commit to engaging with capital providers on credible decarbonization plans.
And a final important thing we believe pragmatism teaches us is that this transition is not easy. It won’t proceed in a straight line. And it’s when the setbacks pile up that opportunities to reset, like COP27, become more challenging—but also more critical.
In Case You Missed It
- China Caixin Manufacturing PMI: +1.10 to 49.2 in October
- U.S. ISM Manufacturing PMI: -0.70 to 50.2 in October
- JOLTS Job Openings: +437k to 10,717k in September
- November FOMC Meeting: The Federal Reserve raised interest rates by 75bps
- U.S. ISM Services PMI: -2.30 to 54.4 in October
- U.S. Employment Report: Nonfarm payrolls increased 261.0k and the unemployment rate increased to 3.7% in October
What to Watch For
- Monday, November 7:
- U.S. Consumer Credit
- Tuesday, November 8:
- NFIB Small Business Index
- Thursday, November 10:
- U.S. Consumer Price Index
- Friday, November 11:
- University of Michigan Sentiment (Preliminary)
Investment Strategy Group