COP26: The financial challenges of reaching Net Zero

Achieving Net Zero by 2050 is going to require investment on a scale never seen before. Banks, insurers, pension funds and asset managers will play a critical role. So will shareholders.

the financial challenges of reaching net zero
The financial challenges of reaching net zero. Photo by Mark on Flickr (CC BY 2.0)

With COP26 finally here, the stakes are higher than ever for the UN climate talks in Glasgow to deliver results. More political commitments to reduce carbon emissions are essential but, even if more countries commit to reach net zero by 2050 (or, better still, earlier), we need so much money to achieve it.

Estimates of how much capital is required vary wildly, but the Energy Transitions Commission (ETC), a network of oil companies, banks, investors, academics and large corporates, believe that to achieve net zero around 1.5% of global GDP is required to finance it; potentially £43 trillion. And while many within the ETC may prefer the public to underwrite this huge cheque, private capital is essential to getting anywhere near such vast sums.   

To place these numbers into a UK context, the Johnson government recently set out how it plans to fully decarbonise by 2050, estimating £26bn of funding towards the green infrastructure (think wind, tidal, and nuclear etc) would come from the public sector over the next four years alone, with more than £60bn expected from the private sector. Plenty more will be required afterwards.

Achieving Net Zero: financial institution investment

This means banks, insurers, pension funds and asset managers have a vital role to play in moving private finance and financing transition to where it’s needed. This also means these institutions must themselves at least commit to reaching net zero within the same time frame.

There has been some decent progress from UK-based financial institutions on this front. For example, in July, a series of high-profile pension funds, including the UK’s National Employment Savings Trust, signed a commitment, led by the Prince of Wales’ Accounting for Sustainability (A4S) initiative to halve portfolio emissions by 2030 and bring them to net-zero by 2050. Many more are expected to follow.

Shareholder activism to go greener

As shareholders, pension funds and investment managers have huge influence over how companies will transition away from fossil fuels through their voting rights. The more engaged they are on the subject, the more likely they can enact change.

A good example is HSBC. In April this year the UK-headquartered bank’s shareholders backed a proposed resolution committing the lender to phase out finance for the coal industry by 2040 worldwide. This resolution came about after a group of HSBC shareholders, worth $1.75 trillion, and led by an NGO called ShareAction pressured the bank to move. Investors included Europe’s largest asset manager, Amundi, and the world’s largest publicly listed hedge fund company, Man Group.

2021 also proved that you don’t need to own a lot of capital to make waves. One clear example is the historic defeat of Exxon Mobil CEO Darren Woods by shareholders, when investment firm Engine No. 1 secured three seats on Exxon’s board despite having only 0.02% in the company. It’s ability to argue its case that the oil company lacked green energy expertise on the board was enough to compel Exxon’s largest investors to support its proposals.

ExxonMobil get three green board members
ExxonMobil gets three green board members. Photo by waltarrrrr on Flickr (CC BY 2.0)

These actions are not altruistic – in fact, they stem from a fundamental view that it makes economic sense to transition to a low carbon future. Investors, such as pension funds, have a fiduciary duty to ensure they invest in assets they believe will increase in value over time. As much as they might prefer to invest purely in green technology, there simply aren’t enough assets to go around (not without causing huge price bubbles).

Challenging ‘greenwashing’

Even still, the risk of greenwashing – conveying a false impression or providing misleading information about how a company’s investments or services are more environmentally friendly than they really are – could prove to be the biggest barrier to reaching net zero.

There are signs governments and regulators are waking up to this. German asset manager DWS is currently being investigated by the US securities watchdog after recently claiming that more than half of its assets are subject to what is called environmental, social and governance (ESG) integration – that is, a method of ensuring ESG issues are incorporated into their investment decision making. However, the former group sustainability officer, Desiree Fixler, subsequently said “only a small fraction of the investment platform applies ESG integration”.

With such huge flows of money swirling around the financial system, it’s easy to understand why investors struggle to detect greenwashing. One of the biggest obstacles for institutions looking to allocate capital responsibly is sourcing reliable data on the impact and sustainability of their investments.

Collaboration is key to achieving Net Zero

This is where collaboration is both essential and inevitable. Acutely aware of this problem, one of the UK’s biggest pools of retirement savings is taking steps to try to resolve it. Border to Coast Pensions Partnership – which oversees the investment of up to £55bn for 11 local government pension scheme funds – is currently working on finding ways to work with technology companies to source and build ESG data sets to help them hold asset managers to account. that can do this for them. Early days, but retirement fund is also moving to ramp up its carbon footprint measurement and focus more on diversity and inclusion issues.

Holding financial institutions to account is critical. And this is where the general public can also play a key role. Those with pensions, be it government, corporate or otherwise, should make the effort to find out what commitments they have made to achieving net zero and if they have made any public statements on how they intend to achieve it. For those who haven’t, you should get in touch directly and ask why.

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