Canadians like to manage risk. Canadian financial institutions, for example, pride themselves on how they reduced their exposure to the asset-backed mortgage debacle and the ensuing meltdown. Yet institutions that control an important part of our future – our pension plans – do not appear to be protecting our interests to the extent they could. As we’re increasingly learning, many traditional assets financed by pension plans have significant exposure to climate change risk.
This situation is a global issue being tracked by organizations such as the Asset Owners Disclosure Project (AODP). In a 2013-14 survey of 1,000 pension funds that have roughly $75 trillion under management, AODP found that 55 per cent of investments were in climate change-exposed industries, predominantly energy, steel, aluminium, cement, construction and transportation, while only 2 per cent of investments have been placed in industries with low-carbon intensities.
The funds were ranked with respect to Climate Change Best Practices, and the top 15 revealed a mix of European, Australian, and U.S. (Californian) funds. The top Canadian fund, B.C. Investment Management Corporation, ranked 28th and the Canada Pension Plan ranked 52nd. Overall, there were 20 Canadian pension funds in the top 200, indicating at least some recognition of climate risks.
These risks occur in many ways. As the world urbanizes, new construction and expansion of existing cities along coastlines and within floodplains invite trouble. As we experience more severe storms, in some cases annual rainfall delivered in a single event, damage to communities and agricultural land can be catastrophic, and deadly.
The opposite also happens. Water shortages have had, and will continue to have, devastating effects on agribusinesses and livelihoods. Recent examples include failed rice harvests in Asia and drought in California that has caused reservoir levels in the state to drop to unprecedented levels.
Having assets become stranded is another risk as energy prices become more volatile over the long term and government measures to combat emissions, such as carbon taxes or GHG limits, impact the economic viability of everything from pipelines to power plants.
On the other hand, low-carbon solutions abound. They range from improved urban planning, advanced public transit systems, advanced materials applications, wider use of bio-based chemicals, to the widespread adoption of clean energy technologies.
Pension funds are somewhat unique in that they play the long game with their investments. They support many large, revenue-producing infrastructure projects ranging from energy exploration and transmission, power generation, roads, railways, and real estate – all assets that deliver returns over many decades.
As global emissions grow the likelihood of increased costs from climate change-related disasters and carbon pricing puts the long-term revenues from these investments at risk. It is not reasonable for funds to divest entirely from their fossil-fuel-tied investments. The reality is that we will continue to use these valuable resources. At the same time, we should do so in a way that reduces both the environmental impact and cost, and makes the profit equation more stable.
Individual companies are increasing their use of innovative low-carbon technologies, however there is frequently insufficient "available" capital to scale up the products – and the companies behind them – because of their perceived novelty or risk. There are some exceptions. For example, software-based technologies that can help us use energy and resources more efficiently. Venture capitalists prefer these technologies because they are relatively inexpensive to scale up, and therefore less risky.
However, many of the most impactful clean technologies are equipment-intensive and often target regulated customers, such as utilities, which tend to be highly risk averse. These technologies require larger amounts of capital, longer investment hold periods, and often require a project finance structure to scale up that doesn’t match the limited revenues of these small, young companies. The resulting lack of capital, which I term the "high capex gap," is problematic.
Pension funds have an important role to play. They have an opportunity to dovetail with the rapid growth of Canadian cleantech companies and at the same time fulfill the need to diversify assets – that is, include more low-carbon investments and still invest in infrastructure. Doing so also helps them mitigate or hedge asset exposure to climate risks.
Canada has the capacity to outperform in this arena. We already have an impressive array of innovative cleantech companies across the country that have demonstrated leading-edge technical solutions for increasing efficiency in traditional, resource-based industries. Visit the website of Sustainable Development Technology Canada for the array of investment opportunities.
To commercialize these cleantech products is a struggle. The companies behind them need to obtain sufficient capital to scale up, otherwise they will not be robust enough to seize a larger share of the global market. This market is estimated to be in the trillions of dollars by 2020.
There could be significant mutual benefits if Canadian pension funds invested in these young companies and their projects, which have the potential to tap into a massive export opportunity. Funding of manufacturing and production plants both at home and abroad creates jobs locally and integrates cleantech companies into global value chains, thereby diversifying the risk profile for pension funds.
Society often feels powerless to help the environment in a measurable way. How empowering would it be if your pension fund invested in Canadian cleantech with all the attendant benefits for both economy and environment, while at the same time better securing your retirement nest egg?
