What does it mean for investors that Congress is poised to take historic action on climate change? The Senate is hoping to mark up its version of the American Clean Energy and Security Act, passed by the House in June, ahead of a major international climate summit in Copenhagen this December. The goal is to reduce the nation's greenhouse gas emissions by up to 20% below 2005 levels by 2020 and by more than 80% by 2050.
Such ambitious legislation need not crimp long-term economic growth. The cost to American households would be the equivalent of a postage stamp per day, by most respected government estimates. Still there will be winners and losers, especially in energy-intensive sectors.
For investors who loathe uncertainty, here are some things we don't yet know about how climate-change policy might play out.
How much will we spend on energy investments? The International Energy Agency estimates $26 trillion in cumulative energy-sector investments will be required globally between 2007 and 2030, half of which will be to maintain current energy supply and infrastructure. This energy budget would balloon to $35 trillion — a one-third increase — in order to speed the transition toward a low-carbon economy. Most of the extra $9 trillion would go to added spending on energy efficiency and renewable energy sources to reduce demand for fossil fuels and keep the atmospheric buildup of carbon dioxide below 450 parts per million — considered a critical threshold by leading scientists.
What role will natural gas, coal and nuclear power play? Efficiency and renewables can't do the job alone in providing the world's energy needs, so other proven sources will still play a necessary role. Natural gas is favored because it is clean-burning and has the lowest carbon content among the fossil fuels. Nuclear power, a virtually carbon-free energy source, is also poised to make inroads. Coal, on the other hand, is likely to lose its leading role in power generation unless practical ways are found to capture and sequester carbon from this most carbon-rich energy source. Many institutional investors remain leery of both carbon-capture technology and nuclear power, mainly because of their long-term storage and siting issues. Nevertheless, major financial incentives built into recent and proposed energy legislation are trying to spur these solutions along.
Will greenhouse gas controls lead to stranded investments? Of greatest concern to investors are pending decisions about power plants, oil refineries, steel mills and other long-lived assets that will define the greenhouse gas emissions trajectory for a generation. If market pricing of the emissions is not factored into the operating costs of these facilities, they could be shuttered prematurely or moved offshore, assuming they still have a place to go. Changing consumer preferences will also play a role. For example, rising demand for hybrid and electric cars could cut U.S. gasoline demand nearly in half by 2030, creating a “twilight business” for domestic refiners, according to a recent research report from Deutsche Bank.
These high stakes leave investors with greater need for transparency and disclosure. Fortunately, there are some encouraging trends:
Investors: The Carbon Disclosure Project recently released results of its sixth annual climate survey. More than 2,200 global companies responded, a 52% jump from 2008. This big increase is partly due to expanded outreach by CDP to companies traded among the world's leading stock exchanges. But it is mainly because companies no longer can ignore climate questions posed by a group whose backing has grown to 475 institutional investors with a combined $55 trillion in assets.
Regulators: For similar reasons, the Securities and Exchange Commission has under review a petition from major pension funds and other institutional investors that could lead to mandatory climate-change disclosure in corporate securities filings. Meanwhile, a shareholder proxy campaign seeking better disclosure is entering its 20th year. In 2009, a resolution at IDACORP Inc., a Boise, Idaho electric utility, received the first-ever majority vote asking the company to disclose its greenhouse gas emissions and set reduction targets.
Insurers: In 2010, the National Association of Insurance Commissioners will require hundreds of property and casualty, health and life insurers to report on the opportunities and vulnerabilities that climate change poses to their investment arms and underwriting businesses.
Industry: Also starting next year, 10,000 facilities responsible for 85% of the nation's greenhouse gas emissions will be required to report into a national inventory, sponsored by the Environmental Protection Agency, and for the first time the EPA is requiring corporate identifiers to make it easier for investors to track who is responsible for these emissions.
The world is changing fast. Front and center are investment and policy decisions that will affect asset valuations for decades and the fate of generations.
Douglas Cogan is director of climate risk management for RiskMetrics Group Inc., a New York-based provider of risk management and corporate governance services to investors and corporations.