With the book, Watsa partly wanted to ensure that outsiders understood Fairfax’s culture well enough not to dismantle it after he’s gone. I was drawn to the book not only because Watsa and I share an alma mater, the Ivey Business School, but also because of the curious gap between Watsa’s philosophy and the application of it when it comes to climate risk. 

The irony is that by carefully documenting why Fairfax is designed for permanence, the book also exposes how ill-prepared it is for the most significant long-term risk facing the insurance industry from which it derives most of its revenue. Fairfax prioritizes reducing long-term losses over achieving short-term gains, led by a founder who cares about doing good and having a positive impact on the world. Yet it is the world’s third-largest insurer of fossil fuel projects and has little to no plan on how it manages climate risk. 

I’ve spent the last two years trying to approach both Fairfax and its shareholders to address the climate risk that is facing their industry and business. This includes two shareholder resolutions, a bunch of letters – they refuse to meet – and even a complaint to the Ontario Securities Commission over lack of disclosure. 

A long-term philosophy meets a long-term risk

Watsa’s value-investing philosophy favours patience, downside protection and trust over market fashions and short-term profits. This long-term orientation makes Fairfax’s position on climate risk harder to reconcile than for companies that justify inaction by pointing to short-term shareholder pressure. 

“Our favourite holding period is forever” is a Warren Buffett line that Watsa returns to often. In the abstract, this is a refreshing counterweight to short-termism. In practice, it raises uncomfortable questions about the kinds of assets Fairfax intends to hold indefinitely. Those holdings include oil and gas investments, and “forever” is a long time to finance industries whose business models depend on expanding physical risk across the global economy, thereby biting the insurance industry.

Climate change barely appears in The Fairfax Way. A short section acknowledges that catastrophe losses are increasing and that Watsa finds watching the weather channel nerve-racking. Missing is any explanation of how accelerating climate damage fits into Fairfax’s commitment to downside protection, sound underwriting and enduring value creation. The company is simultaneously betting on long-term stability while underwriting and financing industries that undermine it.

Watsa has also said that “everything we do as a company rests on the strength of our insurance assets. Without them, there is no Fairfax.” The value of those assets depends on their ability to generate underwriting profits over long periods. Climate change directly weakens that equation. Insured wildfire losses in Canada have risen more than 1,000% in a little more than a decade, reflecting not a temporary spike in claims but a structural shift in the loss profile facing insurers. Fairfax itself reported approximately US$1.1 billion in catastrophe losses in 2024.

Why climate risk may be getting misclassified

One is left wondering whether climate risk simply does not arrive in the categories Fairfax is accustomed to managing. Fairfax can handle specific shocks that show up as short‑term volatility in a particular stock or line of business. Climate risk is different. It is systemic, cumulative and physical – the kind of risk that compounds quietly, until it doesn’t.

Watsa has repeatedly demonstrated an ability to navigate stress. Fairfax has anticipated multiple market shocks and had to navigate an attack by a U.S. hedge fund. That experience likely reinforced an institutional instinct that external pressure, whether from markets, media or activists, will not determine the company’s direction. Fairfax’s success in resisting noise became part of its identity.

That same instinct may have led Fairfax to misclassify climate risk as politics, as fashion or as ESG rhetoric rather than as signal. 

Fairfax’s decentralized structure does not prevent clear direction from the top. Watsa is described as values-driven rather than prescriptive but decisive when principles are involved. That combination could support a serious response to climate risk if leadership chose to name it as such.

There is also a moral tension that feels unusually relevant because Watsa has made values central to Fairfax’s identity. He speaks often about honesty, integrity, humility, loyalty and the Golden Rule. He capped his own salary, donates hundreds of millions of dollars annually, and has said that success carries an obligation to give back and that “to whom much is given, much is expected.” Insurance, at its core, exists to help people recover when things go wrong. 

Profiting from activities that intensify those harms is in direct competition with that purpose.

Even so, reading The Fairfax Way left me cautiously optimistic. If Fairfax is truly a contrarian institution focused on multi-generational success, then addressing climate risk is not optional; it is necessary. Trust, in a world of accelerating physical damage, means not funding the forces that undermine collective resilience.

The book presents the Fairfax approach as a shared agreement about how to live and operate, followed by the courage to act accordingly. Our collective response to climate change is based on the same thing.

Kiera Taylor is a senior policy analyst at Investors for Paris Compliance.

The post The giant oversight in Prem Watsa’s long-term investing strategy appeared first on Corporate Knights.

Clean energy stocks and exchange traded funds have rebounded this spring, raising hopes that the sector’s two-year slump is coming to an end.

The post Clean energy stocks are making a comeback appeared first on Corporate Knights.

This sum includes US$3.3 trillion in financing for new fossil fuel expansion projects, investments that put the net-zero goal of the Paris Agreement in jeopardy.

Despite these alarming overall figures, bank lending and underwriting for coal, oil and gas fell for a second consecutive year in 2023, dropping 9.4% from 2022, and down more than 26% from the highest fossil financing recorded in 2019.

This is welcome news for the lead researcher on this year’s report, the 15th annual edition of Banking on Climate Chaos (BOCC), released Monday. But she says it’s too early to conclude that banks have reached peak fossil fuel financing.

“This is the second year in a row that we’ve seen a year-on-year decline in the overall financing,” says April Merleaux, researcher for the Rainforest Action Network (RAN) and BOCC’s lead collaborator.

“To me, that is somewhat hopeful,” she says. “But there’s an open question about whether banks will do things to lock that in or not. I see this as an opportunity for banks to seize this moment and lock in a business model that doesn’t depend on high revenues from fossil fuel clients.”

A total of US$705.8 billion in fossil financing was arranged in 2023, a drop from US$778.7 billion in 2022. The 2023 total is also the smallest amount of financing in the eight years of comparable data compiled by the researchers. Twenty-seven of the 60 banks increased their fossil fuel financing in 2023, and 33 decreased their financing.

In 2021, the International Energy Agency stated that to reach net-zero by 2050, there should be no investment in new fossil fuel supply projects. The BOCC report shows that many banks continue to finance companies that are expanding fossil fuel projects (aside from continuing operations), although expansion financing is also on the decline.

In 2023, US$347.5 billion was committed to fossil-fuel-expansion companies, down from US$385.2 billion in 2022. It was also the lowest level of expansion in the eight years of the report.

JP Morgan Chase top fossil bank

Topping the list of both overall financing and expansion financing is the U.S.-based bank JP Morgan Chase. At US$40.9 billion, up from US$38.7 billion in 2022, it is the largest financier to the fossil fuel industry in the world, and the largest financier to companies expanding their fossil-fuel operations at US$19.3 billion. Japanese bank Mizuho Financial is the second-largest overall, at US$37.0 billion. It’s also the second biggest at expansion financing, at US$18.8 billion.

JP Morgan told the Financial Times it is one of the world’s largest financiers to both traditional and clean energy companies, and noted its recent decision to start posting its energy supply ratio (the ratio of renewable energy financing compared with fossil fuel financing).  JP Morgan, Citigroup and Royal Bank of Canada (RBC) all agreed to the measure this year under pressure from shareholder New York City pension funds.

RBC is the largest Canadian bank and seventh-largest in the world on total fossil fuel financing, at US$28.2 billion. Unlike JP Morgan Chase and Mizuho, however, RBC’s 2023 financing was down from 2022, declining 16%.

One factor in this trend is lower financing for the high-emission Canadian oil sands. RBC is tied with CIBC and Scotiabank as the largest financiers to the oil sands, at US$523.2 million each, which is down significantly from last year for RBC (2022: US$1.8 billion) and CIBC (2022: US$1.1 billion), but higher for Scotiabank (2022: US$189.7 million).

Midstream “natural gas” companies (pipelines and terminals) have overtaken oil and gas producers this year as the largest fossil fuel borrowers.

Offsetting some of these declines is a retreat by some banks on their fossil fuel exclusion policies. Bank of America is the worst offender in this regard, according to the report, having dropped exclusions on Arctic drilling, thermal coal and coal-fired power plants. The bank stands as the third-largest fossil fuel bank at $33.7 billion and fifth-largest fossil expansion bank at US$14.7 billion.

One of the key trends is that midstream “natural gas” companies (pipelines and terminals) have overtaken oil and gas producers this year as the largest fossil fuel borrowers, a sign of the growing role of gas in the energy system. The top borrower in this category was Canadian-based Enbridge, a large gas pipeline operator and the largest gas utility in North America. Financing for liquefied natural gas facilities increased to US$120.9 billion in 2023.

This year’s report draws on a number of new data sources, which means that comparisons with previous reports are not possible. Of note, it looks at fossil fuel financing and does not address the financing of renewable energy. But the new data contained in the report enables the annual comparisons since 2016. Eight climate advocacy organizations jointly wrote the report coordinated by RAN.

The report authors note that there could be a number of reasons for the decline in fossil fuel financing, including large oil majors such as Exxon Mobil self-financing their operations from recent large profits.

Regardless, Merleaux says too many banks are still financing fossil fuel expansion plans.

“The fact we see any financing for companies expanding fossil fuels really throws into question those banks’ climate commitments.”

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Decades later, that consensus is now breaking down. The environmental and economic risks of nuclear power are being overshadowed by mounting anxiety around the climate crisis. Pushed by governments in Europe and North America, the responsible finance industry is revisiting the nuclear energy exclusion.

“Nuclear energy will be an essential source of fuel in the transition to the renewable sources required to support a low-carbon economy,” said Marian Macindoe, head of ESG stewardship at San-Francisco-based Parnassus Investments, as the veteran sustainable fund company announced last year that it was dropping its nuclear exclusion, which had been in place since 1984.

More managers are dropping their nuclear exclusions. In a survey of 200 European and North American fund managers with social and environmental exclusions, 37% of funds reported having a nuclear energy screen in 2022, down from 43% in 2021.

This turnabout has been most pronounced in the green bond market, where power utilities have, controversially, been adding nuclear energy as an option for green bonds.

In a 2023 report, the International Energy Agency (IEA) estimates that to meet net-zero goals, electricity’s share of total energy demand needs to double between now and 2030 to accommodate the electrification of transportation, building heat, industrial processes, agriculture and information technology. At last year’s COP28 climate conference, 22 nations pledged to triple their nuclear energy capacity by 2050 to generate a large source of low-carbon “dispatchable” energy – meaning it can provide power when intermittent renewable energy isn’t available.

With this in mind, nuclear green bonds promise to help fund decades of net-zero energy for the public and years of clean financial returns for investors. But are nuclear green bonds suitable for ESG-focused investors, given the long delays, cost overruns, and safety and waste risks of nuclear plants? Is the nuclear industry using a smokescreen of net-zero to cover up its sustainability problems?

Nuclear green bonds hit the market 

The movement to think about nuclear as a green investment began in 2021, when seven European Union member countries – led by nuclear-heavy France – began pressuring the European Commission to ensure that the EU’s climate policy included nuclear. 

Meanwhile, Canada, and specifically the province of Ontario’s two nuclear utilities, became the first to push the envelope. The world’s first nuclear green bond was issued by privately owned Bruce Power, operator of the Bruce Nuclear Generating Station three hours north of Toronto, the world’s largest nuclear plant. The company issued a $500-million offering in late 2021 and two additional issues of $600 million each for a total of $1.7 billion. Proceeds are financing a refurbishment and 30-year extension at Bruce, in service since the 1970s and 1980s.

Investors – particularly institutions – welcomed the bond issues. Demand for both issues was about six times higher than the amount issued.

By 2022, the conversation around nuclear was shifting around the globe. After months of contentious debate, the EU agreed to add natural gas and nuclear to its EU taxonomy, the official list of acceptable sustainable investments to help Europe finance its ambitious climate goals. That same year, Ontario Power Generation, owned by the provincial government, issued $300 million in nuclear green bonds to refurbish its Darlington Nuclear Generating Station.

This year, the Canadian federal government became the first national government to issue a green bond that included nuclear expenditures.

The bonds are ranked “medium green” by investment rating service S&P Global. Refurbishments are ranked higher than new builds, and Canadian CANDU reactors are ranked higher than other reactors because CANDU reactors use natural, rather than enriched, uranium. The depleted natural uranium in spent CANDU fuel bundles is considered at lower risk of being turned into weapons, which typically use enriched uranium. Also, recent refurbishments in Ontario have been completed on time and on budget, in contrast with cost overruns and delays typical of the nuclear industry.

However, Canadian reactors lose points in the S&P Global ratings because Canada hasn’t yet developed a permanent nuclear-waste disposal solution, something environmental advocacy groups say should negate nuclear bonds from being labelled green.

In January of this year, the government of Ontario went ahead and added nuclear energy to its green bond framework in anticipation of a planned major expansion, including refurbishment of its Pickering Nuclear Generating Station, construction of four new small modular reactors and a new plant capable of almost doubling Bruce’s output. If implemented, the plan will be the largest nuclear construction program in the Americas or Europe, although approvals from the Canadian Nuclear Safety Commission and other bodies such as local First Nations could present roadblocks. 

A few weeks after Ontario’s announcement, the Canadian federal government became the first national government to issue a green bond that included nuclear expenditures.

Canada is no longer the only hot spot for nuclear bonds. In France, Électricité de France  – the country’s publicly owned power utility – issued a €1-billion nuclear green bond for refurbishments in November, making it Europe’s first green bond for nuclear energy. A few weeks later, Teollisuuden Voima Oyj, Finland’s privately owned nuclear utility, launched a €280-million nuclear green bond to refinance a new plant and to refurbish two older plants.

These offerings are just the beginning, says Nick Pfaff, deputy CEO of the International Capital Market Association. In an interview with Responsible Investor, he said nuclear green bonds could make up more than 10% of energy sector green bonds, especially in jurisdictions like Canada and France where nuclear energy is predominant.

The state of the debate 

Both sides of the nuclear ESG debate agree that a reduction in carbon dioxide emissions and fossil fuel use is desperately needed. Some climate deniers argue for nuclear energy, but the disagreement in the ESG community is whether nuclear qualifies as a sustainable energy option. 

A long-standing thought leader in this debate is Amory Lovins, co-founder of the Rocky Mountain Institute (now called RMI), the famous Colorado-based think tank and advocacy centre for low- and renewable-energy alternatives. He argues that by conserving energy and creating it more sustainably through wind, solar and other small-scale, distributed and renewable  “soft-energy” paths, large-scale and centralized “hard-energy” systems like fossil fuels or nuclear power aren’t needed.

Lovins, now 76, argues that renewables are cheaper and much more efficient than nuclear power, which requires at least a decade of planning and construction. “It’s better to use fast, cheap and certain rather than slow, costly and speculative,” he said in a recent interview in The Denver Post.

It’s better to use fast, cheap and certain rather than slow, costly and speculative.

 

– Amory Lovins, co-founder of the Rocky Mountain Institute

While nuclear megaprojects like Britain’s Hinkley Point C lumber along overbudget and years late, lower-cost renewable energy grew by 50% in 2023, the 22nd year in a row that global renewable capacity additions set a new record, according to the IEA.

Environment professor Mark Winfield, at York University in Toronto, shares Lovins’s view that nuclear energy could serve to delay the energy transition, rather than accelerate it. Winfield argues that efficiencies are reducing electricity demand, and even if more generation is needed for electric vehicles and heat pumps, this doesn’t mean that this “demand can only be served by large centralized, capital-intensive, high-risk and inflexible generating assets like nuclear power plants.”

One of the leaders on the other side of the debate is climate scientist James Hansen, who is famous for raising awareness of the climate threat at U.S. congressional hearings in the 1980s.

Nuclear is “one among several technologies that will be essential to any credible effort to develop an energy system that does not rely on using the atmosphere as a waste dump,” he wrote in a letter to world leaders in 2013 with other climate scientists.

Hansen notes that nuclear can provide enough power for “whole civilizations,” something that would make it easier for small-scale and intermittent renewable energy to fill any remaining gap in fossil-free generation. 

Samuel Miller McDonald, a geographer and the author of a forthcoming book on the science and history of progress, steers a middle ground and warns against listening to commentators who make strident claims in one direction or the other. 

In a 2021 article in the Boston Review, he argues that nuclear energy could accelerate the energy transition and reduce emissions in places with stable, centralized grids, but these hard-energy systems are dependent on bureaucratic state planning. Renewable energy – by contrast – holds potential for cooperative ownership and local management. Choosing between these doesn’t doom societies for all time, he argues, but it does narrow the range of short-term possibilities.

“The debate that needs to occur around nuclear is not just whether it can reduce carbon emissions or provide efficient electricity, or whether it is ‘safe and clean,’” McDonald says, “but also whether it should be part of the vision for how human societies adapt and, with any luck, thrive in the new and more dangerous world we have created.” 

Eugene Ellmen writes on sustainable business and finance. He is a former executive director of the Canadian Social Investment Organization (now Responsible Investment Association).

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“This rule is a floor, not a ceiling, for companies to report how their business is adapting to a global economy that is transitioning away from fossil fuels,” said Maria Lettini, CEO of the U.S. Sustainable Investment Forum, in a statement. 

The rule, approved last week by the Securities and Exchange Commission (SEC), will provide “an achievable floor of disclosure” on company climate emissions and physical and transition risks, said the chief executive of the association whose members manage US$5 trillion in assets. 

When fully in place in 2026, the rule will require large, publicly listed companies to disclose their Scope 1 and Scope 2 greenhouse gas emissions from their direct operations and energy use if the emissions are sizeable enough to represent a material financial risk to the company. Smaller companies will start reporting in 2028. 

Under heavy lobbying from business organizations and threats of legal action, the SEC pulled back from a proposal two years ago to also require disclosure of Scope 3 greenhouse gases, the end-use releases that make up about 75% of all emissions. The earlier proposal also would have required companies to report on their Scope 1 and 2 emissions regardless of whether they are financially material. Even with the concessions, 10 Republican-led states launched a legal challenge against the rule, meaning its survival will ultimately be decided in the courts.  

The sustainable investment industry was among the strongest supporters of the SEC’s initial proposal. 

“The SEC’s new climate rule will help make it clearer which companies are living up to their climate pledges and which are doing nothing more than greenwashing,” said Al Gore, former U.S. vice-president and co-founder of sustainable asset firm Generation Investment Management. “But it’s not the full accounting of corporate climate pollution that we need,” he wrote on X, formerly Twitter. 

“It’s a step forward, but we feel it’s too little too late,” said Leslie Samuelrich, president of sustainable investment manager Green Century Funds, blaming “vigorous opposition by trade groups” for the pullback. 

“The SEC’s new rule can be seen as a step in the right direction, even if it backtracked from some provisions in earlier proposals,” said a post from the global corporate rating agency Sustainalytics. 

Largest consultation in SEC history  

Last week’s decision caps off two years of consultations in which the SEC heard from 24,000 investors, companies, lawmakers, think tanks and citizens. It was an unprecedented level of public debate for an initiative spearheaded by the regulator.    

The lobbying was particularly heavy by Republican lawmakers and large corporate interests, led by the U.S. Chamber of Commerce.  

While the future of the SEC rule is in doubt, large global corporations are facing a rising tide of mandatory climate reporting requirements around the world. Most notably, the European Union Corporate Sustainability Reporting Directive will require European-listed companies to disclose all three scopes of emissions, as well as detailed climate risk disclosures and “double materiality” impacts (real-world effects on people and the environment). 

The SEC estimates that 3,700 U.S. companies with business in Europe will be subject to the European rules when they go into effect between 2025 and 2029. 

The state of California has also approved new climate reporting requirements that apply to 5,300 large companies – including some large oil and gas conglomerates like Chevron – for all three scopes of greenhouse gas emissions and climate risks. 

In February, China announced new sustainability reporting requirements for companies listed on its three major stock exchanges. The sweeping rules include mandatory disclosure on all three scopes of carbon emissions, as well as reporting on environmental, social and governance impact and risk factors. Similar to the EU rules, the regulations include a “double materiality” standard. 

Eyes on Canada  

As home to one of the world’s largest fossil fuel industries, Canada also has a large role to play in the evolving world of climate reporting.  

The new SEC rule will apply to more than 200 large Canadian companies that trade on U.S. stock exchanges, including some of the country’s biggest oil, gas and pipeline companies. 

On March 13, the Canadian Sustainability Standards Board (CSSB), the Canadian branch of the International Sustainability Standards Board (ISSB), released its own climate reporting framework, based on the ISSB standard, which includes Scope 3 reporting. 

Once finalized later this year Canada’s securities commissions could then make the ISSB reporting standard mandatory for Canadian publicly listed companies. 

The Canadian Securities Administrators (CSA) – the umbrella group for Canadian securities commissions – has already proposed reporting requirements similar to the final SEC rule. But the securities commissions suspended that proposal while awaiting the CSSB framework. Once the CSSB standard is finalized, CSA will issue a new climate reporting proposal for adoption by provincial securities commissions. The CSA said its proposal will consider the CSSB standard “and may include modifications appropriate for the Canadian capital markets.”

The big question is whether Canada will go further and adopt full-scope climate reporting like the Europe-California-China standard or simply default to the weaker SEC rule, aligning Canada and the U.S. 

Eugene Ellmen is a former executive director of the Canadian Social Investment Organization (now Responsible Investment Association). He writes on sustainable business and finance. 

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Among the 11 funds surveyed, the Canada Pension Plan Investment Board (CPPIB), which manages retirement savings for more than 22 million Canadians, “stands out as the biggest investor in and defender of fossil fuel investment in the Canadian pension sector,” Shift Action for Pension Wealth and Planet Health concludes in its second annual Canadian Pension Climate Report Card. “CPPIB appears to have an ideological commitment to fossil fuel investment.”

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The Global Sustainable Investment Alliance (GSIA), the worldwide umbrella organization for green investing, has adopted a new, more rigorous definition of sustainable investing, drawing a clearer line between sustainable and conventional investment.

The new definition has some holes – it doesn’t deal with the controversial problem of sustainability-linked debt, for example. But with new data released on Wednesday, the industry’s leadership is refusing to count assets of fund companies and asset managers with fuzzy claims of environmental, social and governance (ESG) performance.

“It’s effectively taking a different definition of what counts as sustainable than we have used in the past,” said GSIA chairman James Alexander in a media briefing. “You would expect that from an industry that’s emerging that we don’t use the same definitions that we used 10 years ago.”

The data was contained in the Global Sustainable Investment Review 2022, a report on global sustainable investment assets issued biennially since 2012. The last report in 2020, compiled under the looser definitions, estimated assets of the sustainable investment industry to be US$35.3 trillion. Under the new definitions in 2022, those assets are 14% lower at US$30.3 trillion.

There has been some growth in Europe and Japan, but this has been offset by lower numbers in Canada and especially the U.S., where the tighter definitions have been felt most.

“We want to address greenwashing and we’re doing our part through this report,” said Alexander, who is also chief executive of the UK Sustainable Investment and Finance Association, one of the regional networks that make up the GSIA.

Maria Lettini, CEO of the U.S. Sustainable Investment Forum (U.S. SIF), said a tighter definition of ESG integration (incorporation of ESG analysis into the investment process) led to a big decline in reported sustainable investment assets in the U.S. between 2020 and 2022.

Unlike in previous years when industry researchers accepted ESG integration statements at face value, they have now excluded assets of companies claiming to “practise firm-wide ESG integration but didn’t provide information on any specific ESG criteria,” she said.

The methodological change had a big impact on the estimate of U.S. sustainable investment assets, dropping from US$17 trillion in 2020 to US$8.4 trillion in 2022 (which was already reported last year). Canada also reported a slight decline from US$2.42 trillion to US$2.36 trillion.

“We wanted to make sure that they weren’t just using the [sustainability] name straight out of the box and that didn’t actually equate to the underlying theme or strategies,” said Lettini. 

A problem for years

The issue of ESG integration has plagued the sustainable investment sector for years.

A 2015 report from the U.S. SIF found that eight of 16 large money managers claiming to integrate ESG into their investment practice failed to disclose specific ESG criteria being integrated or provided criteria only for certain asset classes such as property or fixed income.

This fall, the GSIA revised its definitions of sustainable investment strategies, including ESG integration. The new definition means ESG integration assets will only be counted if there is “ongoing consideration of ESG factors within an investment analysis and decision-making process.”

The change has dramatically altered the estimate of the share of the total investment market held by the worldwide sustainable investment industry from a whopping 38% in 2020 to 24% in 2022. The market share estimate in the U.S. went from 33% in 2020 to just 13% in 2022.

GSIA changed the definitions in collaboration with the Principles for Responsible Investment, with more than 5,000 signatory organizations managing more than  US$120 trillion in assets, and the Chartered Financial Analyst (CFA) Institute, the global professional body for more than 190,000 investment managers and analysts.

ESG managers and funds mix and match strategies as they see fit. So in addition to ESG integration, strategies include screening (criteria determining whether an investment is permissible; I.e., tobacco or nuclear), thematic investing (investments in specified trends such as renewable energy), stewardship (the use of investor rights to influence corporate management on ESG issues, such as board diversity) and impact investing (investing with the intention to generate positive social or environmental impact alongside a financial return; I.e. community loan funds).

The definitions apply to general sustainable investment strategies and don’t drill down to address some problematic ESG investment products, such as sustainability-linked bonds (SLBs) and sustainability-linked loans (SLLs).

With sustainability-linked loans or bonds companies promise to pay financial penalties if they don’t meet predefined social and environmental performance targets. While linking corporate debt to sustainability targets can incentivize companies to make ESG improvements, a lack of standardized rules has opened the door to greenwashing, with some companies using the funds to continue business as usual with little ESG impact.

Alexander said the definitions of sustainable investment likely will change over time, which means there could be further tightening.

“I am very confident with the data that’s in this report and with the numbers that it presents, but I’m not going to say that, in future versions of this report, we won’t see different methodologies, and that’s as it should be.”

Lettini said she believes public policy will be a strong driver for the sector in the U.S. This includes new rules regarding ESG fund names by the Securities and Exchange Commission, new California rules imposing corporate greenhouse gas emission disclosure requirements and investment incentives for sectors such as  renewable energy under the federal Inflation Reduction Act.

While it appears the estimated size of the sustainable investment industry in the U.S. has shrunk by more than half in the last two years, the reality is that it never was the size claimed by USSIF and GSIA. The industry relied on incorrect assumptions that ESG claims equaled ESG action, an error that  has now been addressed.

“We are ensuring that the methodology behind sustainable investment assets has increased rigour,” said Lettini. “That has translated into a number that I think we can feel much more comfortable standing behind.”

Eugene Ellmen is a former executive director of the Canadian Social Investment Organization (now Responsible Investment Association). He writes on sustainable business and finance.

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Rising rates are making it harder for this debt-heavy industry to meet its costs, causing many companies to trim profit forecasts, reduce dividends and pull back expansion plans, triggering a stock market selloff.

How long these climate-critical industries will remain in a slump is an open question, as central banks seem to be in no hurry to reduce interest rates. But one hopeful sign is that investors have shown strong interest in climate-related funds in 2023, a signal they are optimistic about the industry despite the recent carnage in share prices.

Central banks around the world launched a round of aggressive interest-rate increases in early 2022 after inflation started to rise sharply. At first, the hikes were not considered a major threat to the climate transition. But now, in its most recent energy outlook, the International Energy Agency (IEA) says rate hikes pose a significant challenge to the sector, even though it believes that use of oil, natural gas and coal will inevitably peak this decade, to be replaced by widespread electrification powered largely by renewable energy.

“Financing costs for clean energy projects have recently been driven up significantly by rising interest rates in markets around the world, in particular in emerging market and developing economies,” the IEA states in its most recent energy outlook, published  October 24. It points out that high interest rates are pushing up costs for clean energy companies as well as consumers.

“Increases in financing costs have the biggest impact on large-scale projects involving capital intensive technologies such as offshore wind, grids or new nuclear power plants, but rising interest rates also affect consumers that rely on credit to finance an EV or the installation of a heat pump,” says the IEA. “The progress of electrification will depend on reducing the cost and improving the availability of capital.”

These costs now threaten the climate transition, according to economists Thomas Ferguson and Servaas Storm. “High interest rates de-incentivize investments in renewables, lock our economies more deeply into fossil-fuel dependence, slow down decarbonization and put us more strongly on the road to hothouse Earth,” they wrote in a commentary in The Guardian in May.

Solar and wind companies hit hard

Recently, prospects for the clean energy sector have appeared bleak.

Bloomberg estimates that green stocks globally have lost US$280 billion in value since they hit their peak of more than US$600 billion in August 2022.

The value of the MSCI Global Alternative Energy Index, a measure of the value of major solar, wind and other clean energy companies, has dropped by 41% (as of October 27) from the beginning of the year. Top listings in the index include wind turbine giant Vestas, large European renewable power company Ørsted, major Canadian renewable producer Northland Power and several global solar companies.

On October 20, solar stocks dropped dramatically after being under pressure for weeks. Solar equipment distributor SolarEdge dropped 26% after announcing “substantial unexpected cancellations and pushouts of existing backlog.” The announcement hit other solar stocks as well as Enphase Energy fell 12%, SunPower nearly 9% and Sunrun more than 3%.

Clean energy stocks are sensitive to high interest rates because they need heavy amounts of debt to finance expansion of their infrastructure, such as solar and wind farms. When rates go up, overall costs rise sharply just as energy utilities and other purchasers pressure these companies to keep electricity prices low.

Compared with the major oil and gas sector, which can increase fuel production by drilling existing reserves, clean energy companies must borrow heavily to grow. The indebtedness ratio for the clean energy sector is 3.8 times debt to 12-month earnings, almost four times higher than the 1.1 ratio for large oil and gas companies, according to a recent research post by Charles Schwab Corp. This is jeopardizing the ability of the sector to survive at a time when it should be continuing its recent rapid expansion, spurred on by higher oil and gas prices driven by the wars in Ukraine and Gaza, as well as government programs like the U.S. Inflation Reduction Act and the European Green Deal.

“Given all those trends, it would seem that alternative energy stocks should be thriving,” Charles Schwab says. “Instead, they are among the world’s worst performers this year.”

Climate and sustainability funds show strength, but not in the U.S.

Despite the slump in clean energy share prices, sustainable and climate funds are showing resilience with investors, according to recent reports from investment information provider Morningstar. Global assets of mutual funds and exchange traded funds (ETFs) with a climate-related mandate surged by 30% to US$534 billion between January 2022 and June 2023, Morningstar says.

The company notes that climate fund assets have grown at “a faster clip” than the larger sustainable fund market (although the numbers don’t include the impact of recent share-price declines). Sustainable funds are funds managed with an explicit environmental, social and governance (ESG) focus and include climate funds.

Assets of conventional mutual funds (without an explicit ESG focus) dropped 5% in the same period, and conventional ETFs were down 8%.

The number of climate funds globally has grown from fewer than 200 in 2018 to more than 1,400 currently, which has been a key driver of rising investor interest. Most are equity funds, but they also include 125 green bond funds, which are expected to attract growing interest. Recently, BlackRock Inc. announced a major new private debt fund to help meet the fast-rising debt needs of climate-transition companies.

Sustainable funds have also grown, according to Morningstar. In the third quarter of 2023, these funds attracted US$13.7 billion in net new investment, compared with the non-ESG mutual fund and ETF market, which had net redemptions of almost US$3 billion.

Growth hasn’t occurred everywhere, however. Europe, by far the largest sustainable fund market with 84% of total global assets, saw net inflows of US$15.3 billion in the third quarter, compared with net redemptions in the United States of US$2.7 billion. Interest in Europe is being driven by a flurry of new regulations to encourage the sustainable investment industry, while proposed new rules are stalled in the U.S., and many Republican lawmakers are publicly attacking ESG investing.

In Canada, sustainable funds experienced net withdrawals of US$52 million in the third quarter, but total assets declined by only 0.3%, half the rate of decline of conventional funds at 0.6%.

The share of the total investment market in Canada held by responsible investment grew last year, rising to 49% at the end of 2022 from 47% in 2021, according to a report released last week. (Responsible investment includes assets of sustainable funds plus conventional assets managed under informal ESG guidelines.)

The report by Canada’s Responsible Investment Association also showed that 93% of asset owners and managers surveyed track greenhouse gas emissions, the top-cited ESG investment factor.

“Sustainable funds should continue to gain ground as investor demand for strategies that align with their sustainability preferences continues to grow,” Morningstar says.

The climate transition is at the top of the list for these sustainability preferences, and investors appear to be ready and willing to commit capital when conditions improve for the industry.

(Disclosure: the author has investment holdings in a number of renewable energy stocks, including Northland Power, cited in this article.)

Eugene Ellmen is a former executive director of the Canadian Social Investment Organization (now Responsible Investment Association). He writes on sustainable business and finance.

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In 2015, the United Nations established the Sustainable Development Goals (SDGs) – a blueprint of 17 ways to make the world a more just, inclusive and sustainable place. The UN estimated that it would take approximately US$5 to $7 trillion per year in investments to achieve the SDGs. These goals provided the first real opening for private equity to take a firm step into the sustainable finance arena. But, while the door was wide open for the industry to start focusing on environmental, social and governance (ESG) criteria, private equity players have historically been slow to move on this opportunity. 

Private equity (PE) generates value by its oversight of business units that are disregarded inside conglomerates or badly managed private companies and family-run businesses. The industry’s focus has been generally on short-term returns, leaving the long play to institutional investors, and with it most ESG considerations.

But PE is well placed to lead sustainable investing. The industry is large – so large that society won’t be able to tackle the climate crisis and other major challenges without the active participation of PE firms and their portfolio companies. In the last 15 years, the industry has been a steadily growing area of interest for limited partners (essentially silent partners, who have less liability then general partners and do not participate in business operations) because it offers diversification from listed assets. In 2021, the PE industry reached more than US$5 trillion in assets under management, with expectations to grow well beyond $11 trillion by 2026. Research by BlackRock shows that PE outperformed the S&P 500 and MSCI World indexes by 2.8 and 4 percentage points a year, respectively, between 2002 and 2020. 

While the PE industry has been slow to dive into ESG, there are signs that PE investment is starting to align with global ambitions for a sustainable economy. But where to find those signs? “Follow the money,” says John Ruffolo, the founder and managing partner at Maverix Private Equity. “The finance industry is changing, and private equity is now responding to a whole range of new factors, including pressure from [limited partners] to consider ESG.” A 2020 INSEAD study called Green Shoots: Can Private Equity Firms Meet Responsible Expectations of Their Investors? found that 90% of limited partners factor ESG into their investment decisions, and 77% use it as a criterion in selecting general partners.

As of May 2022, the Net Zero Asset Managers initiative (an international group of asset managers committed to net-zero) had grown to 273 investors who collectively manage US$61.3 trillion. PE funds that invest solely in renewable energy assets raised about US$52 billion last year, a record, according to Bloomberg, and the available capital for such funds is about 25 times more than the amount flowing to fossil-fuel-asset funding. InBC Investment Corp. made its first investments in 2022, choosing a trio of Vancouver-based funds focused on entrepreneurs driving climate change action, advancing reconciliation efforts, and innovating for the future. Two years prior, in 2020, KKR announced an investment in Q-Park, a leading European parking garage operator. The investment’s intent was to support Q-Park’s transition to a more sustainable business model, including the adoption of electric vehicle charging stations and the implementation of energy-efficient lighting and heating systems. 

In 2019, TPG announced an investment in Cibus, a plant-based food company that uses biotechnology to develop sustainable food products. With this investment, Cibus has been able to scale its operations and expand its product line, including the development of a plant-based alternative to meat. PE’s ownership model and flexibility could be transformative for climate; however, “most funds focus on climate-related technology and enablers, less so on decarbonization of heavy-emitting assets,” Ruffolo says.

However, while you would think that increased adoption of ESG into investment cycles would lead to increased ESG expertise within investment teams, it’s not the case. The real potential for disruptive innovations can be found at the intersection of ESG data and analysis and financial data and analysis. For now, taking a lead on ESG seems to consist of embedding ESG into the investment cycle: due diligence, on-boarding, holding periods, exits and reporting. The few players in the industry that are meaningfully stepping up on ESG are examining material issues through the lens of value creation and moving past the compliance checklist to identify opportunities that disrupt the status quo while generating healthy returns.

To hear more about how private equity is well positioned to lead on ESG, join us at noon (ET) on March 8 for a panel discussion on the topic. Click here to register.

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The taxonomy will eventually serve as a guide for companies and investors about what investments are considered “green” or “transition.” And the potential breakthrough comes thanks to a proposal by the Sustainable Finance Action Council (SFAC) contained in the Taxonomy Roadmap Report, released Friday by Finance Canada.

The SFAC compiled the report after it assumed responsibility for creating a green taxonomy after the Canadian Standards Association, a non-profit industry body, failed to reach consensus among fossil-fuel and investment-industry representatives in 2020.

The European Union, China, the United Kingdom and about 20 other countries are developing such taxonomies as a way of discouraging greenwashing and channelling investment to the climate transition. The EU’s taxonomy has been particularly controversial because of its inclusion of natural gas and nuclear as “green investments.” SFAC says the taxonomy is a critical tool in helping Canada to raise $115 billion annually in green and transition financing, the amount it estimates is needed for Canada to meet its climate goals.

The SFAC report includes criteria for a “green” label, which would include renewable energy and cleantech projects with no significant emissions from their own operations (Scopes 1 and 2) or end-use emissions (Scope 3).

For CO2-emitting industries, the report distinguishes sectors that have significant Scope 1 and 2 but not Scope 3 emissions (steel or cement, for example) from sectors that have significant emissions in all three scopes (oil and gas, for example).

To qualify for a “transition” label, projects with Scope 1 and 2 emissions would need to demonstrate significant greenhouse gas reductions in line with Canada’s climate goals for 2030 and 2050.

In addition to reductions from their own operations, oil and gas projects would need to phase out end-use emissions in line with the expected decrease in demand for their products (gasoline, for example, as electric vehicles become more popular). Further, the phase-out would need to be consistent with a science-based approach in line with a global temperature rise of no more than 1.5°C.

“Projects must have well-defined lifespans that are approximately proportionate to the expected decline in global demand,” the report says.

Coal projects and new oil and gas projects would be excluded from the transition label, and companies would not be able to rely on carbon offsets to count against their emissions.

Critics have seized on the fact that the report leaves the door open for oil sands companies to label carbon capture, utilization and storage (CCUS) projects as “transition” investments even though they could potentially contribute significant and open-ended Scope 3 releases, which make up 80 to 95% of fossil fuel industry emissions.

But this is where the “well-defined lifespans” condition comes in. By making the transition label conditional on an established end date for fossil fuel projects, the green taxonomy can provide some assurance to investors that their capital will not be used to finance an indefinite period of carbon emissions.

Projects must have well-defined lifespans that are approximately proportionate to the expected decline in global demand.

For oil sands producers, the prospect of having to achieve significant 2030 Scope 1 and 2 reductions as well as a phase-out date in line with climate science and market demand could render decarbonization projects like CCUS uneconomic. If this is the case, they likely won’t qualify for the transition label (and should not proceed in any case).

But how much assurance will investors really have that these projects will close according to schedule?

On this point, the report is weak, and more work needs to be done. Fossil fuel companies will need to assure investors that they mean what they say about a phase-out date. This might include well-documented plans for mothballing facilities and timelines for staff retirements or reassignments. Or companies could use financial mechanisms such as decommissioning bonds that would be payable if the projects continue past the closure date.

There is another potential loophole in the report. One of the recommendations is that companies publish preliminary net-zero transition plans within 12 months after they issue a transition investment and a comprehensive, science-based plan within 24 months. This would open the possibility that companies could offer transition investments and then only later disclose they don’t meet the standards. Companies should be required to publish a comprehensive plan before issuing a transition investment.

Despite these weaknesses, the proposal deserves to move forward to the next step, which is to establish a joint federal government–financial industry governance council to approve the green taxonomy and to finalize details with independent standard-setting bodies.

The taxonomy itself won’t ensure placement of the vast amount of capital needed to achieve Canada’s climate transition.

But together with other climate tools such as a cap on oil and gas emissions and a rising price on CO2, the green taxonomy holds potential to help the investment community mobilize the billions of dollars necessary for Canada to meet its greenhouse-gas-reduction goals.

Eugene Ellmen is a former executive director of the Canadian Social Investment Organization (now Responsible Investment Association). He writes on sustainable business and finance.

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