Climate Change: The New Investment Frontier

by Elizabeth Harrin (London)

Fund managers are faced with a rack of new decisions, shaped by the climate change agenda: should we invest in ‘clean’ energies like wind power? If you know an organisation consumes a lot of carbon, does that make its market value less? On top of that, it’s a political hot potato, with the impending discussions at COP 15 (December’s climate change conference), and the Obama administration pushing ahead for a cap-and-trade scheme.

With the US carbon emission trading market set to be worth $1 trillion by 2020 investors can’t help but take notice. Companies are going to need to know exactly how much they are emitting. A whole industry has sprung up around green house gas emission calculations, with the aim of permitting allowances to be accurately traded with software like GreenCert, which has been produced as a joint effort by IBM, C-Lock Technology, Inc. and Enterprise Information Management.

It’s important to be able to measure accurately, to ensure that carbon trading schemes can be audited effectively. “This lesson was rather painfully illustrated in late 2007,” says Jennifer Smokelin, an attorney at Reed Smith LLP, and Professor of Law (adjunct) at the University of Pittsburgh School of Law. “Verified emission data released spring 2006 showed that there was over-allocation of between 75 million and 150 million tons by member states. Lithuania, for example, over allocated its allowances by nearly 200%, which not only served to effect no net reductions on carbon dioxide but also caused the price of a ton of carbon to plummet from about €30 per ton CO2 [in] April 2006 declining to €0.10 in September 2007, a market collapse.”

It’s a delicate balance: the cap needs to be set low enough to make the whole thing worthwhile. “From an environmental standpoint, a cap-and-trade system is only effective at reducing emissions if the cap is stringent enough to do so,” Smokelin says. “From a market standpoint, the market will only function if there is demand for credits and offsets; demand is created by a cap that is hard to meet so sources need to purchase credits; the more demand, the higher the prices for credits and the more robust – presumably – the market.”

The big consultancy companies are also getting in on the act, and wising up to the fact that their clients need advice in this emerging area. Helle Bank Jorgensen is US sustainability and climate change leader at PricewaterhouseCoopers, advising clients on their sustainability strategies, in areas like alternative energy, clean technology, carbon finance and climate policy. Jan Babiak has a similar role – global head of climate change and sustainability services – at Ernst & Young. In fact, if your CEO doesn’t have a climate change expert on speed dial, then they need to update their phonebook.

“Now that climate change is at the forefront of the political agenda, investment opportunities to support the growth of the new energy economy have become the hottest ticket in town,” says Susan Preston, general manager of the CalCEF Clean Energy Angel Fund. “Climate change has become a very real public concern; consumers are demanding green products and corporate sustainability. With volatile carbon markets and increased pressure from both the public and private sectors, smart companies are taking preventative steps now to ensure their longevity.”

Alternative energy sources and sustainability may well be hot topics, but for the most part venture capitalists are steering clear. “Clean technology is one of the fastest growing investment sectors worldwide,” says Preston. “Unfortunately, the venture capital model focuses on the large, multi-million-dollar deals, leaving a large gap at the early stage or seed level where companies need much less cash, but are too young to attract the attention of the VCs.”

Preston’s company is one of the few to bridge that gap. “Clean energy technologies cannot flourish on venture capital alone, so we’re implementing a new model of financial innovation in the public interest, where we bring together interests from industry, policy and finance to fill the funding gaps throughout the technology development lifecycle–from invention to commercialisation to deployment to scale-up,” she explains. “In light of today’s global financial market conditions and the beating that the private equity investment industry has endured, I see and hear from investors a rising need for transparency in private equity investing.” Preston is trying to listen to those voices, and in keeping with the Fund’s mission of “financial innovation that evolves with and addresses current market conditions,” she says that the CalCEF Clean Energy Angel Fund has made transparency to its individual and institutional investors the cornerstone of its investment model.

This facet of our economy didn’t exist in recent memory: managing the markets based on consumer and investor demand for cleaner energies, and the complex legislation and guidance around carbon trading schemes, are all relatively new. It’s an emerging slice of the fund management industry; a new niche, if you like. “Combating global warming and setting the technology, policy and finance foundation for a new energy economy is the only viable path forward,” says Preston.