The United Nations Climate Change Conference in Glasgow (Conference of the Parties, or COP26) saw leaders from almost 200 countries meet to map a path for the world towards Net Zero greenhouse gas emissions by 2050, with the ultimate goal of limiting global warming to 1.5C degrees from pre-industrial levels. This was the aspirational target set within the 2015 Paris accord: a level of warming determined by scientists that could avoid the most extreme climate change outcomes.
While the list of commitments was extensive, country pledges were focussed around methane, deforestation, financing of overseas oil, gas and coal, zero-emission vehicles and steel. Yet only 10 of the top 20 carbon emitting countries or regions have set Net Zero goals for 2050. The world's largest emitter, China (28% of global emissions) and 3rd largest, India (7%) remain uncommitted to this timeframe, instead setting themselves respective deadlines of 2060 and 2070. For context, Australia contributes about 1% to emissions.
Two weeks of intense negotiations culminated in a 'compromise' agreement. Unfortunately, while echoing the importance for countries to accelerate their shift away from fossil fuels, the overarching deal failed to satisfy the Paris accord's 1.5C degree target. As we know, reaching consensus amongst so many nations was never going to be easy, however many delegates were left disappointed by the 11th hour change brought by China and India to the statement regarding coal, calling for a "phase down" (rather than "phase out") of the fossil fuel.
While the list of pledges was almost endless, here's a selection of some of the key announcements:
- 46 countries, including 5 of the world's top 20 coal-fired electricity producers, committed to transition away from unabated coal generation: within the 2030s for major economies, and the 2040s globally.
- Environmentalists were disappointed that major coal consumers such as the United States, China, India and Australia were not parties.
- On the sidelines however, the US and China announced a deal (admittedly scant on detail) to increase cooperation in phasing out their consumption of coal, tackle methane emissions and protect forests. Importantly, this included a commitment from China to phase out their consumption of coal over the 2026-2030 period.
- 25 countries including the US, along with various public financial institutions, committed to ending international finance support for the fossil fuel energy sector by the end of 2022, instead prioritising support for the clean energy transition. This followed recent announcements from China, Japan and South Korea to end overseas coal financing. The result of all this means public international financing has effectively ceased for coal-fired electricity generation.
- 31 countries including the UK and select European nations, plus 6 car manufacturers (who produce 25% of the world's autos), pledged to end the manufacture of internal combustion vehicles by 2040. Disappointingly, the major automotive markets of the US, China, Germany and Japan, along with the 2 largest car manufacturers (Volkswagen and Toyota) were notable absentees.
- 105 countries including Brazil, China and a somewhat reserved Indonesia, committed to working collectively to halt and reverse forest loss and land degradation by 2030. The pledge secured additional public and private investment and a new set of guidelines outlining a path towards eliminating deforestation from supply chains. As part of this commitment, 30 financial institutions pledged to stop investing in companies responsible for deforestation.
- 450 global banks, insurers and asset managers across 45 countries (referred to as the Glasgow Financial Alliance for Net Zero or GFANZ) who combined control assets of US$130 trillion, committed to using science-based guidelines to reach Net Zero by 2050.
Various industry groups have attempted to quantify the cumulative impact of the pledges made in Glasgow. The International Energy Agency (IEA) estimated they will deliver a 1.8C degree outcome (refer below) while the Climate Action Tracker believes this is overly optimistic, instead estimating the globe will see an even worse 2.7C degree warming outcome.
While there was disagreement over the application of certain technologies (such as carbon capture and storage) and the required speed of the energy transition, there were areas of alignment including consistent calls for a price on carbon (to create the required market incentives for private sector investment) and for more defined national targets and deadlines (which will shape where and how investment capital is allocated). For context, the European Union (about 8% of global emissions) operates the poster child for a carbon pricing scheme, covering about 50% of the region's emissions. Unfortunately from a global perspective, the program only covers 4% of the issue!
The involvement of business and finance executives was notably stronger than previous summits. It's no coincidence given the noticeable shift in markets with the capital flows accelerating out of carbon-intensive industries and into areas exposed to the energy transition. Investors are increasingly holding companies to account for their ESG (environmental, social and governance) credentials. A few years ago these issues were pushed only by activist groups however today, corporate self-interest has seen many businesses realise they risk being left holding stranded, uneconomic assets or exposing themselves to materially higher costs of capital going forward.
There's no shortage of private investment capital in the world, nor is there an unwillingness to invest in the energy transition and decarbonisation. We believe the private sector (not public sector) has the ability to fund the majority of the solutions. Unfortunately, the majority of these uncommitted projects are uneconomic on today's subsidies, regulations and legislation. Policymakers must now provide the mechanisms and policy certainty to incentivise this vast war chest of capital to be deployed… and fast if the 1.5C degree target is to be achieved!
The energy transition and decarbonising trends are now well ingrained, with markets already attempting to identify the beneficiaries and losers. Our role as your portfolio manager is to preserve and grow the real value of your capital, seeking appropriate risk-adjusted returns. We believe that companies who exhibit good governance, a strong social license and a sustainable approach to managing environmental impacts are best placed to deliver outperformance over the long-term. Consequently, our investment process will continue emphasising business models that are best placed to navigate and positively contribute to the challenges of climate change.
Given Glasgow's commitments are unlikely to meet the 1.5C degree target, investors should focus on the actual risks of climate change such as the impact of extreme weather on agriculture, infrastructure and national productivity. Crucially, much uncertainty also remains regarding the exact means of delivering on Glasgow's ambitious targets. We now look to government to provide the business world (and investment markets) with the required clarity for us to make prudent long-term investment decisions with your capital.