Net Zero Investments Part 4: Variable Investment Horizons

By Richard Howard

“All we have to decide is what to do with the time that is given us” – Gandalf to Frodo in the Fellowship of the Ring, J.R.R. Tolkien

This is the fourth blog in a series on net-zero investments. Part 1 introduced the clearly communicable goals provided by the concept of net-zero. Part 2 looked at the ethical choices that using the net-zero goals provide, and part 3 looked at transition risks and investment horizons associated with net-zero.

In part 3 of this blog series, we touched on the idea of how net-zero will increasingly affect investment horizons. In summary, as 2050 approaches then more and more fossil fuel heavy businesses will be subjected to transition risks: demand shift, technological changes, regulatory shift etc. We can then expect this to have a subsequent knock-on effect on the value of investments.

Is there a way, however, that fund managers and investment professionals can manage the uncertainties and opportunities created by the net-zero horizon and communicate these clearly to their clients?

Different Net-Zero Outlooks

The ability of a business to adapt to a net-zero world will predominantly depend on the industrial sector in which they operate. Heavy users of fossil fuels will be subject to much greater transition risks and challenges than businesses that already use few products and services that are directly tied to fossil fuels.

Example – Media Industry

Media companies, for example, will have relatively small energy requirements: electricity to power their facilities and transport for travel to events and meetings. In the grand scheme of things the electricity and business travel demands of a media company can probably adapt to a net-zero world far easier than other companies.

Crucially, the fundamentals of their business are far removed from fossil fuels and their underlying products and services will remain broadly the same. Electricity can be provided by renewable resources, business travel can be reduced through use of video conferencing and regional teams, and flight emissions can be offset through accredited carbon offsetting schemes (although this is a thorny issue, which we will deal with in an upcoming blog). But ultimately they are technologically agnostic and the demand for their products and services is not tied to the use of fossil fuels.

Example – Ammonia-based Fertiliser Production

At the other end of the spectrum there are industries which are heavy users of fossil fuels. Fertiliser production, for example, uses large amounts of natural gas as its primary feedstock for the mass production of ammonia, which is the basis for the majority of the most common fertilisers (urea, ammonium nitrate etc.) [1].

There are low carbon and net-zero alternatives [2]; for example, it is possible to produce ammonia using hydrogen instead of natural gas, or there are alternatives to using ammonia based fertilizers [3]. Although these solutions do not currently exist at scale, they could step in to fill the void whilst continuing to support the world’s food product at its current level.

Research and development is focused towards scaling up alternatives [4], however, there exists no drop in replacements for the current method of producing ammonia in large volumes. 

Ammonia producers are currently not technology agnostic and are heavily dependent on fossil fuels. It will take many years for the fertilizer industry to scale up other production methods and meet any net-zero targets.

Copyright Philip Howard

Net-Zero Investment Horizons and Investor Choice

The two examples above crudely demonstrate that it is feasible for a media company to transition to net zero much more easily than a fertiliser business. But that is not to say some ammonia producers couldn’t grasp the nettle and prioritise net-zero.

For both industries it will take time for net-zero businesses to come into being. The amount of time will depend on the industry as well as the ambition of the leaders at companies themselves, and importantly, this type of tangible industry-level analysis could be used by investors or fund managers to offer clear and concise information regarding the climate-effects of their investments.

For example, investments or companies could be advertised via the time point at which they plan to achieve net-zero. Collective investment schemes (i.e. funds such as investment trusts, unit trust, OEICs, UCITS) could be set up which invest in bundles of companies, which expect to meet net-zero investments by a target date.

As a demonstration Joe Bloggs Capital could offer the following range of funds:

  • Joe Bloggs Capital – Net-Zero Now Fund: all investments currently meet net-zero targets
  • Joe Bloggs Capital – Net-Zero 2030 Fund: all investments currently on target to meet their net-zero commitments by 2030
  • Joe Bloggs Capital – Net-Zero 2040 Fund: all investments currently on target to meet their net-zero commitments by 2040
  • Joe Bloggs Capital – Net-Zero 2050 Fund: all investments currently on target to meet their net-zero commitments by 2050

These funds are loosely analogous to target date funds [5], whose portfolio becomes more cautious and conservative as the target date approaches (usually retirement).

This flexibility allows the client to choose where to put their money, as well as to choose investments based on their ethical preferences. In this scenario, the role of the fund manager would have to extend to incorporate auditing whether a company is on track to meet their net-zero targets (see part 2 of this blog series for methods of judging an investment to be net-zero).

One risk to investors is that environmental promises are made by companies and are subsequently broken (i.e. greenwashing). That is why companies need to meet the three tests, and continue to demonstrate that they are striving for net-zero.

There would potentially be an advantage to the company itself, since the sooner its net-zero date, the more funds could invest in it, and subsequently the more capital and investment it has access to.

Conclusion

Net zero investments are a marketing opportunity which can accommodate investors’ differing climate risk appetite. By offering net zero investment funds which work on different timescales, investors can be presented with a range of funds which expect to meet net-zero goals. This gives investors choice with how to manage the transition risks associated with clearly defined climate goals as well as matching investments to their own ethical outlook.

References

  1. USGS, Mineral Commodities Summaries 2020, 2020 https://pubs.usgs.gov/periodicals/mcs2020/mcs2020.pdf
  2. https://royalsociety.org/topics-policy/projects/low-carbon-energy-programme/green-ammonia/
  3. https://thebreakthrough.org/articles/fixing-nitrogen
  4. https://new.siemens.com/uk/en/company/topic-areas/sustainable-energy/green-ammonia.html
  5. https://en.wikipedia.org/wiki/Target_date_fund

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