By Christi Vosloo, Head of ESG at Mayfair Capital
With building and construction activities accounting for approximately 39% of global carbon emissions and 40% of the UK’s total carbon footprint, decarbonising the real estate sector is paramount to curbing global warming and mitigating the worst impacts of climate change. Real estate is particularly exposed to climate-related risk, due to the long-term nature of investments, as well as location-based factors. Recent research found that 35% of real estate investment trust properties globally are geographically exposed to climate hazards – including inland flooding, typhoons, hurricanes, coastal flooding and sea-level rise.
All eyes have been on COP26 recently, with citizens calling for decisive and ambitious action from our global leaders. There have been many notable commitments, with the UK Chancellor Rishi Sunak announcing that the UK will become the first country to require all financial institutions and listed companies to publish plans on how they will transition to net zero from 2023. In addition to this, the EU launched The EU Catalyst Programme, which is a billion-euro programme to finance breakthrough climate innovation and new technologies to be used on the ground in Europe.
Given the contribution of the real estate sector to climate change and the effect of global warming on the built environment, decarbonising portfolios must be the number one priority for real estate investors. Whilst this will require careful consideration of timing, resource use and cost benefit, it is the only option for investors hoping to ensure stable long-term returns and resilient portfolios.
Keeping pace with regulation
Increasingly stringent legislation and industry-led initiatives are transforming the real estate market. There has been immense industry focus on net zero carbon, brought about through increased public pressure for meaningful climate action as well as through the UK government’s commitment to net zero carbon by 2050. Consequently, building regulation is evolving to meet these commitments, with proposals for commercial buildings to produce an Energy Performance Certificate (EPC) with a minimum of a C rating by 2027, and increasing to a B rating by 2030.
The Task Force on Climate-related Financial Disclosures (TCFD) is another initiative that has gained considerable momentum, with the number of signatories growing by over a third this past year to over 2,600 organisations globally. TCFD has developed recommendations for more effective climate-related disclosures to promote informed investment decisions and enhance transparency on climate-related risk. In November 2020, the UK announced its intention to make climate risk disclosures mandatory across the economy by 2025, becoming one of the first major economies to do so.
Staying abreast of regulatory risks should be a key priority for all real estate investors. We conduct annual legislation reviews to ensure regulatory risks are monitored and the right measures are in place to mitigate these risks to our portfolios. In addition, we carry out annual risk materiality assessments against Global Reporting Initiative (GRI) standards and industry policies to ensure our ESG strategy is correctly aligned to rapidly evolving trends.
Pricing climate risk
Despite advances in reporting, accurately and comprehensively pricing climate risk into investment decisions is still not commonplace in the industry. In time, we expect the cost of mitigating climate-related risks will be routinely factored into asset appraisals and valuations. As tenants increasingly prioritise ESG factors in their occupational requirements, this will pose a risk to the current income and capital value of assets.
As with financial performance, we recognise the benefit of using historical environmental performance in conjunction with forecasted data to assess the resilience of our portfolios. We conduct climate resilience assessments using specialist ESG tools to identify emission reduction requirements and ‘transition’ risks in various decarbonisation scenarios. This forward-looking analysis is becoming increasingly important in asset pricing models, and we expect it to become the norm.
