As governments and businesses take steps to address climate change and reach net zero, how can investors best support the transition?
While climate-related disasters and record temperatures intensify around the world, commitments to decarbonisation initiatives from governments and businesses seek to address the most pressing challenges.
But the transition to a net-zero future is no small undertaking. TheCityUK estimates a staggering US$125 trillion of investment is required to decarbonise the global economy, of which $32 trillion is needed by 2030. This presents a significant growth and investment opportunity and is leading to an increased focus on transition investing.
In the simplest terms, transition investing provides financing to support progress toward net zero. It covers investments in high-emitting and hard-to-abate sectors that require substantial financing to implement their climate strategies and lower emissions.
It’s a rapidly growing sector: according to BloombergNEF, global investment in low-carbon energy transition totalled $1.1 trillion in 2022 (up 31 percent over the previous year).
The energy sector – the source of approximately three-quarters of greenhouse gas emissions according to the International Energy Agency – is focal to the global net-zero transition, with demand for traditional sources of energy expected to continue to grow over the next decade before ebbing slightly to mid-century. The sector will need to continue pursuing decarbonisation pathways and meaningfully reduce operational emissions to achieve net-zero targets.
Significant operational changes are also required in other high-emitting industries such as industrials, manufacturing, mining, automotive and agriculture. Meanwhile, alternative forms of energy such as renewables need to scale significantly to become a larger portion of the global energy mix.
But businesses require considerable support to realise net zero ambitions, especially if the move to a more sustainable economy is to be fair, inclusive and help address economic inequalities across society.
It’s no small task. And it’s widely recognised that governments cannot finance net zero ambitions alone – TheCityUK estimates about 70 percent of investment will need to come from private finance.
Investors – both institutional and retail – are increasingly assessing the role they can play in the transition, with responsible and sustainable investing approaches now becoming commonplace in the UK.
“Innovative new companies alone, however, will only scratch the surface,” says Stephen Metcalf, head of Sustainable Investing at RBC Wealth Management in the British Isles and Asia. “In order for the world to achieve the necessary levels of emissions reduction as outlined in the Paris Agreement, major decarbonisation must take place across the entire value chain for all sectors, industries and geographies.”
On the surface, transition investing seems like a natural fit for investors looking to achieve positive sustainability outcomes. However, some may baulk at investing in businesses that are currently high emitters, amid fears they are not transitioning quickly enough or stretching beyond their business as usual. “Greenwashing” – misleading or inaccurate statements about the sustainable performance of a firm or investment – is also a common concern.
“Some investors start with the perception that it’s best to invest in businesses that already represent the future net-zero economy, which is actually a very small proportion of the investment universe,” says David Storm, chief investment officer of RBC Wealth Management in the British Isles and Asia. “Investing in the decarbonisation of high-emitting sectors could have a marked impact on achieving global and national climate goals.”
There are a range of financial products available to investors interested in investing in the energy transition and decarbonisation efforts. One option is the many climate or energy transition funds available.
Fixed-income options are also accessible in the form of transition bonds, green bonds, climate-aligned bonds, sustainability bonds and sustainability-linked bonds. Alternative strategies can be deployed too, such as investing in carbon futures or long- and short-hedging approaches to firms that are or aren’t transitioning.
Transition investing can also help diversify an investment portfolio, not only in terms of asset allocation, but widening the investable sectors and industries. This is particularly true for investors who want to consider companies or funds labelled Sustainability Improvers, but have previously only invested in companies dubbed “green” or low emitters. Those labelled as Sustainability Improvers invest in companies that may not be sustainable now but have the potential to improve environmental and/or social sustainability over time. However, it’s essential these investments fit with your appetite for risk.
“It’s understandable that investors might initially be wary when getting to grips with how certain companies plan to transition,” says Metcalf. “While these businesses are turning the dial and not flipping a switch from high- to low-emitters, they will have targets that investors can analyse and monitor to see if progress is being made.”
Commitments to decarbonisation and net zero are now becoming more common. According to Oxford Net Zero’s Net Zero Stocktake 2023 report, 65 percent of the annual revenue of the world’s largest 2000 companies is now covered by a net-zero target. Of course, there are companies with aggressive decarbonisation targets that are doing more than their peers, but it is the implementation at operational level that everyone is going to be judging them against.
“It’s very much a long game – especially when you consider the key net-zero targets are aimed at 2030 and 2050,” says Metcalf. “So that has to be aligned with a long-term investment strategy, which involves a measure of patient capital.”
Investors will also be questioning what returns might be realised. RBC Capital Markets analysis suggests that from Dec. 2011 through to April 2023, companies in emissions-intensive sectors (energy, industrials and utilities) that have reduced their emissions intensity the most have outperformed peers that reduced emissions the least.1
As with any investment, performance must be reviewed as part of your overall, ongoing portfolio planning.
Fundamentally, high-emitting companies decarbonising and transitioning toward net-zero targets are vital in reducing the emissions that contribute to climate change.
The relevance of transition investing cannot be understated, adds Storm. “It’s not just an energy transition, but an economic transition – the implications of moving to net zero are broad across all sectors and in our everyday lives. We can’t just turn the tap off to high emitters, as they are fundamental to society functioning and the way we live, eat and move; helping to reduce their emissions is the logical way forward and is where we can really make a difference.”
For information about RBC’s commitment to reach net zero by 2050, access its Climate Report 2022 and Net-Zero Report .
1 RBC GAM, MSCI ESG Climate Change Metrics, Dec. 2021, MSCI®
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