Financial market volatility is up, major stock indices are down, and investors are suffering losses in almost every asset major class. Though the situation seems dire, it may be a good time to remind ourselves that investing for the long haul has always been the best strategy. Farsighted investors are increasingly focused on climate change, the ultimate long-term trend.
Investing in businesses that reduce emissions of greenhouse gases has never been more popular than it is now. Venture capital flows into climate tech reached new highs in both 2021 and the first half of 2022, and in the public equity markets investors are funding climate-themed companies. BlackRock’s Carbon Transition Readiness ETF LCTU, +0.08%, for example, was the most successful launch in the ETF industry’s three-decade history.
We’ve seen this trend before. In 2007, investors grew excited about investing in climate technologies, pouring capital into early-stage venture funds. It did not work out well. Joe Dear, the former chief investment officer of pension-fund giant CalPERS, summed up the experience of many investors during that time when he described green investments as “a noble way to lose money.” Which raises the question — is the surge of climate focused investments temporary, or is a more fundamental transition underway?
Predicting markets is a fool’s errand, yet several important trends will almost certainly drive growth in climate investments for decades. Every investor should be aware of these trends, both for their own benefit and that of the planet.
The first and most widely reported trend is the rising risk of a changing climate. Just this year alone, extreme heat in Oregon, wildfires in California, flooding in Miami, and violent storms in Texas have raised awareness of the implications of a warming planet. But for most businesses and investors, physical risks are relatively low — at least for now. The real impact is felt by businesses among their consumers, employees, and governments.
Companies are increasingly finding that their best employees are pushing them to take action on climate change. Consumers are showing a marked preference for buying products from companies that pass their climate test. Changing social norms have convinced more than 5,000 of the world’s largest companies to make pledges to reduce greenhouse gas emissions to zero.
Governments are also responding to these trends. Government action is evident at the federal level with the recent passage of both the Infrastructure Act and the Inflation Reduction Act. These two pieces of legislation provide nearly $1 trillion in government support for climate solutions, an unprecedented level of funding that elevates the U.S. from a laggard to a leader among nations tackling climate change. At the U.S. state level, 38 states now have renewable portfolio standards or goals, including many with Republican-controlled legislatures. Municipalities also are increasingly favoring energy efficiency initiatives, such as Local Law 97 in New York City.
Changes in consumer sentiment and government support are accelerating the most important trend of all — rapid innovation in products and businesses that reduce greenhouse gases. Today, renewable solar and wind energy is cost-competitive with fossil fuels. The International Energy Agency announced in 2021 that “solar power is now the cheapest electricity in history” — even less costly than coal or gas in most countries. In transportation, electric vehicles are more costly than gasoline-powered automobiles, but consumers prefer them due to lower fuel and maintenance costs. Reacting to consumer demand, automobile companies are rolling out dozens of new EV models. General Motors GM, -2.46%, for example, pledgess an “all-electric future,” ditching the internal combustion engine by 2035 after more than a century of production.
By offering lower cost and better performance, the renewable power and electric vehicle sectors are rapidly outgrowing their old-world competitors. Most investors are aware of the extraordinary growth in the market cap of Tesla TSLA, -3.46%, now the world’s most valuable auto company, but there are many other lesser-known success stories. For example, NextEra Energy NEE, -1.28%, a Florida-based utility, has aggressively used growth in the renewable energy business to create the most valuable utility in America, generating investor returns of 10x over 15 years, and outpacing its benchmark utilities index by a factor of four.
In a time of economic uncertainty and market volatility, these sectors are proving resilient. Renewable energy generates stable returns over many decades simply because the sun is a constant and prices are fixed with long term contracts, while fossil fuel investments are subject to the whims of wildly gyrating oil prices. The growth in renewable energy and EVs has important implications for the planet. Together, these two technologies can reduce global greenhouse gas emissions by more than half.
Solutions to the remaining emissions are in development. Venture investors are funding new forms of energy storage, green hydrogen, carbon capture and many other low-carbon technologies. Every one of these innovations has the same objective — reduce greenhouse gas emissions with a product that is commercially attractive and scalable.
These early-stage technologies are certainly riskier than the more established renewable energy and electric vehicle sectors, but they are creating new investment opportunities with potentially high returns. It’s too early to know which of these technologies will repeat the success of the renewable power or electric vehicle sectors, but climate trends — rising risks from a warming planet, changing social norms, and government action — are accelerating the demand for solutions.
Investing in the era of climate change
Opportunities for investors exist in nearly every sector, worldwide, as the entire global economy must be rebuilt after 300 years of using fossil fuels for industry and nitrogen fertilizers and deforestation for agriculture — all of which emit greenhouse gases into the atmosphere. Avoiding a climate catastrophe will require implementation of climate solutions at an unprecedented pace and at global scale, and this will require an extraordinary amount of investment capital, an estimated $100-$150 trillion by 2050 to decarbonize the global economy and limit the Earth’s warming to 1.5o to 2oC.
I began investing in this sector 20 years ago. Since then, climate change has become significantly worse, and less time remains to address it. But the technologies and business models for reducing emissions have dramatically improved, offering a path for avoiding catastrophic climate change. The era of climate change investing is here, offering investors the greatest opportunity and challenge of their lifetime.
Bruce Usher is professor of professional practice and the Elizabeth B. Strickler ’86 and Mark T. Gallogly ’86 Faculty Director of the Tamer Center for Social Enterprise at Columbia Business School, where he teaches on the intersection of financial, social, and environmental issues. His latest book is “Investing in the Era of Climate Change,” (Columbia Business School Publishing, 2022).