Climate change is approaching a critical tipping point which investors should pay attention to now.
Climate change research generally examines critical thresholds or "tipping points" that, once breached, could accelerate the pace of change. According to we are currently approaching tipping points not only in the environment, but also in political, social and economic realms that should not be ignored by investors.
Tipping point #1: Political
We are edging ever closer to a political tipping point. A 2018 Intergovernmental Panel on Climate Change (IPCC) report concluded that the threat of climate change is so significant and immediate that we have just 12 years to make unprecedented changes to keep global warming to less than 1.5°C above pre-industrial levels. Above this level, the consequences are predicted to be far reaching and catastrophic.
Until now, there has been some inconsistency from governments in dealing with the issues associated with climate change. We think mounting pressure from bodies such as the UN, as well as from a better informed citizenry, may now be moving us towards a political tipping point.
Tipping point #2: Social
Social tensions could be seriously exacerbated in the midst of severe weather related to climate change, notably floods, droughts, fires, hurricanes, snowstorms and extreme heat. Different segments of the population are disproportionately affected by extreme weather and emerging markets, being less able to adapt to climate-related changes, will likely suffer the most.
Social unrest related to climate change is complicated. While inaction is problematic, there are meaningful social consequences of proactive government measures. For example, the protests against rising fuel taxes in France, which the government had tried to enact to fulfill its commitments under the Paris Climate Agreement.
A climate-related social tipping point presents social divisions.
Tipping point #3: Economic
We are nearing an economic tipping point related to climate change, as the cost of renewable energy has fallen dramatically in many parts of the world. Solar and wind energy is $54 and $51 per megawatt (MW) in the U.S. respectively, making both competitive to coal ($66/MW) and closing the gap with gas-generated electricity ($49/MW).
There are also significant technological and economic advances associated with renewables that need to be considered. There are increasing numbers of electric vehicles (EVs), which are getting cheaper and offering a greater range of choices. Hydrogen has the potential to emerge as a complementary technology. It would require a significant build-out of infrastructure, but Japan, China and California are increasingly competing in this space.
An irony worth noting is that while China is widely known to be the world's largest coal consumer, it also leads new investment in renewables (Display 1). In fact China is already dominating in every area of new energies and had the most EVs in 2017 - 40% of the global stock2.
Display 1: China, the world's largest coal consumer also leads new investment in renewables
Global New Investment in Renewable Energy by Region, 2017, $bn
Source: Global Trends in Renewable Energy Investment 2018, Frankfurt School - United Nations Environment Programme (UNEP) Collaborating Centre. New investment volume adjusts for re-invested equity. Total values include estimates for undisclosed deals.
Investor demand and implications
As these political, social and economic tipping points bring disruptive changes into the markets, the question becomes, "How should investors respond?" Enough are asking that question to drive markets to a fourth tipping point: investor demand. Within the last few years, investors have been increasingly demanding greater incorporation of environmental, social and governance (ESG) considerations, including climate change, into their investments.
Many investors are starting to realise that the need to address climate change is an issue that can no longer be postponed. As noted, we are close to a number of tipping points already: political, social and economic. There is no need to wait a century or even a decade to see the effects. The consequences are unfolding right now across the planet. Investors should be taking advantage of the opportunities presented by these disruptions, while protecting their portfolios from the adverse consequences.
Andrew Harmstone is lead portfolio manager for the Morgan Stanley Global Balanced Risk Control Strategy
2 International Energy Agency (IEA), Global EV Market Outlook 2018.