Green Assets

Computing Extreme Climate Value for Infrastructure Investments: Asset Pricing Applied to NGFS Phase 4 and Oxford Economics Scenarios to Measuring Climate Risks at the Asset Level

This paper describes the novel method that we have developed to measure climate risks. While we here apply this method to infrastructure assets, it paves the way to using similar approaches to enlarge the scope of its application.

Summary

Investors in infrastructure assets are increasingly concerned by the risks posed by climate change. Indeed, extreme weather events can damage physical assets, leading to direct losses, increased maintenance costs, and lower asset values (e.g., the deadly flood in north-eastern Italy in May 2023). Such risks are referred to as physical risks. To mitigate climate change and its associated physical risks, various solutions are being designed, including climate policies and carbon taxes to encourage the shift toward greener technologies as well as changes in consumer preferences. However, such efforts will also come at a cost to companies, in particular those that rely heavily on non-renewable energy. Indeed, transitioning to greener technologies will represent a significant cost, one which many companies may find difficult to bear. Such risks are called transition risks.

There is thus no perfect solution to tackle the challenge of climate change: acting against climate change will entail transition costs, while not doing so will incur physical damage, the costs of which may exceed transition costs. In this context, understanding the impact of climate risks is critical when making informed decisions in infrastructure investment, and there is a growing need for a quantitative assessment of climate risks and their impact on infrastructure portfolios. However, this is a challenging task, as methods to quantify the consequences of climate change on infrastructure investments are still at an early development stage.

This paper specifically aims to tackle this issue, by describing the novel method that we have developed to measure climate risks. While we here apply this method to infrastructure assets, it paves the way to using similar approaches to enlarge the scope of its application.

This paper describes the novel method that we have developed to measure climate risks. While we here apply this method to infrastructure assets, it paves the way to using similar approaches to enlarge the scope of its application. Summary Investors in infrastructure assets are increasingly concerned by the risks posed by climate change. Indee...Highway to Hell: Climate Risks will cost hundreds of billions to investors in infrastructure before 2050

This paper presents an assessment of transition and physical risks in the privately invested infras-tructure sector. Leveraging the NGFS scenarios, we quantify the costs associated with delayed or uncoordinated transition and evaluate the potential portfolio value loss resulting from physical risks in the absence of climate action.

We measure company-level transition risk as the difference in Net Asset Value (NAV) between disorderly and orderly scenarios. First, we analyze the statistical relationship between infrastructure companies’ total assets, revenues, operational expenses (OPEX), profits, and countries’ GDP and inflation using historical data. Second, we apply the estimated relationship between these variables to a reference dataset of about 700 infrastructure companies tracked by EDHECinfra’s infraMetrics. Finally, we extrapolate the reference-based results to our universe dataset of about 9,000 firms to calculate the value of the transition risk faced by infrastructure investors.

Our analysis reveals the importance of transition risk for the infrastructure sectors. A disorderly scenario could result in a substantial loss of value to infrastructure investments of nearly USD600 billion. That sum is equivalent to approx-imately 30% of the total invested value in infra-Metric’s 9,000 infrastructure assets. Moreover, the negative effects of transition risk will be felt across all sectors, including low-carbon ones such as Renewables and Social Infrastructure.

In addition, we isolate the physical risk effect by calculating the difference of net asset values between ”the hot house world” and an orderly scenario. We also analyse the microeconomic effects of physical risk within the hot house world scenario, as this result is of particular importance to investors with assets that are highly exposed to climate events. And to determine the extent to which an investor may be exposed to physical risk, we generate a random combination of assets to show how risky an infrastructure portfolio could be in terms of physical risk.

Physical risks are also significant at the microe-conomic level. We show that the cost of physical risks within the Current Policies scenario repre-sents, on average, 4.4% of the total NAV in our reference database by 2050, with large varia-tions across sectors. The effect of extreme climate events is negative across all sectors. In the most extreme cases, when investors are exposed to the riskiest assets in the same portfolio, losses can amount to 54% in the hot house scenario. Moreover, portfolios only need one or two highly exposed assets to be significantly impacted.

Our estimations do not fully capture the transition and physical risk effect. First, the carbon footprint of sectors such as Energy and Water Resources and Network Utilities are underrepresented when considering only Scope 1 and 2 emissions. Second, the transition risk effects go beyond the impact of carbon taxes. Following TICCS® and the EU taxonomy, we show that as countries transition to a low-carbon economy, the market value losses in Europe could reach up to USD9 billion in stranded assets. Finally, the magnitude of physical risk may be underestimated due to the NGFS assumptions.

Based on the evidence presented in this paper, we recommend that investors demand coordi-nated actions and that governments immedi-ately implement carbon taxes to minimize the adverse financial effects of transition risk. The worst impact comes from failing to react until too late.

This paper presents an assessment of transition and physical risks in the privately invested infras-tructure sector. Leveraging the NGFS scenarios, we quantify the costs associated with delayed or uncoordinated transition and evaluate the potential portfolio value loss resulting from physical risks in the absence of climate action. 

It’s getting physical: Some investors in infrastructure could lose more than half of their portfolio to physical climate risks by 2050

 

This research note shows that the physical risks created by climate change are not limited to a distant future for investors in infrastructure, some of whom could well lose more than 50% of the value of their portfolio to physical climate risk before 2050 in the event of runaway climate change. Moreover, the average investor will also lose twice as much to extreme weather, mostly in OECD countries, compared to a low carbon scenario.

In this note, we describe our approach to measure baseline physical risks (today) and how physical risks would materialise from that baseline in different climate scenarios in terms of their impact on cash flows and discount rates at the asset level. We also look at how physical risks, despite being asset specific, are not easily diversified for most investors, some of whom could have a high concentration of such risks in their portfolios. To analyse the low diversification profile of portfolios and physical risk exposure, we built thousands of random portfolios and examine the degree of extreme risk in several climate scenarios. This focus on the materiality of the physical risks allows climate risk to be seen not solely as the result of a public policy decision but as a reality that, without action from all stakeholders, including governments, will have a very significant impact on the value of investments.This is a novel approach in the analysis of physical risk.

 

This research note shows that the physical risks created by climate change are not limited to a distant future for investors in infrastructure, some of whom could well lose more than 50% of the value of their portfolio to physical climate risk before 2050 in the event of runaway climate change. Moreover, the average investor will also...

Carbon Footprints and Financial Performance of Transport Infrastructures: the Case of Airports - Transition risk assessment using traffic and geospatial data

Transition risk assessment using traffic and geospatial data

In this paper, we develop a methodology to estimate the carbon footprint of thousands of airport infrastructures around the world and test for the existence of a relationship between carbon emissions and realised or expected returns in the private airport investment sector.

We propose a consistent methodology to assess the scopes 1, 2 and 3 of infrastructure companies (in this case Airports) and implement it for several thousands entities around the world. We use detailed geospatial and traffic data to predict scope 1 and 2 emissions several thousand airports across the globe. We also derive scope 3 emissions from highly granular cruise and landing and take-off (LTO) data.

We then analyse the link between carbon emissions and financial performance: we build a so-called factor replicating portfolio of high minus low carbon intensity using monthly price return data for private airports provided by infraMetrics® and attempt to determine whether this potential ‘factor’ has predictive power in terms of the returns of airports equity returns.

With the support of

 

Transition risk assessment using traffic and geospatial data In this paper, we develop a methodology to estimate the carbon footprint of thousands of airport infrastructures around the world and test for the existence of a relationship between carbon emissions and realised or expected returns in the private airport investment sector. We propo...