Why Climate Change Is an Investment Risk — But Also an Opportunity

The National Oceanic and Atmospheric Administration recently confirmed that America set a new annual record for billion-dollar weather and climate disasters in the first eight months of 2023.

Globally, we just witnessed the hottest summer on record “by a large margin,” according to the Copernicus Climate Change Service, including the single hottest month on record (July), according to NASA.

All around the world — from the United States, Canada, Europe, Russia and sub-Saharan Africa, to the Middle East, India, China, Australia, South America and beyond — the impacts of extreme weather have become increasingly visible.

These impacts remind us that climate change is not a “potential” problem, or a problem that affects only the energy sector. It is a problem that already affects every industry in every region on Earth.

Looking ahead, MSCI researchers have shown that if global temperatures eventually rose to 3 degrees Celsius above pre-industrial levels, the costs of extreme heat could quadruple for listed companies in the MSCI All Country World Index.

But again, we do not have to project far into the future to see the economic consequences of climate change. Those consequences are painfully apparent right now.

For example, extreme heat already costs the U.S. economy an average of roughly $100 billion per year in lost labor productivity, according to a 2021 report from the Atlantic Council’s Adrienne Arsht Rockefeller Foundation Resilience Center. Heat-induced productivity losses could increase to $500 billion by 2050 without meaningful emissions cuts and/or adaptation measures, per the same report.

“Extreme heat is regularly affecting workers beyond expected industries like agriculture and construction,” the New York Times noted in July. “Sizzling temperatures are causing problems for those who work in factories, warehouses and restaurants and also for employees of airlines and telecommunications firms, delivery services and energy companies. Even home health aides are running into trouble.”

The World Meteorological Organization estimates that disasters related to climate, weather and water hazards have increased fivefold since the early 1970s. Meanwhile, the inflation-adjusted cost of extreme weather has increased almost eightfold, or by nearly 77% per extreme event, according to research from Barclays.

For that matter, the Treasury Department reports that U.S. weather and climate disasters caused more than $617 billion in damages between 2018 and 2022 alone, a record amount for any five-year period.

All of this demonstrates that climate risks are investment risks.

At the same time, climate opportunities are also investment opportunities — because achieving net-zero carbon emissions while adapting to a warmer planet will require an unprecedented transformation of the world economy.

Consider these numbers: To limit global temperature rise to 1.5 degrees Celsius, investments in energy-transition technologies must increase to more than $5 trillion per year through 2050, up from $1.3 trillion in 2022, according to the International Renewable Energy Agency. McKinsey has calculated that total climate-related investments could exceed $12 trillion per year by 2030.

When oil and gas prices soared amid the initial Russian invasion of Ukraine last year, many people expected climate investments to plummet. Instead, they maintained significant momentum, especially in private markets.

“Climate-related private-market investment far outpaced the broader market in 2022 as measured by deal activity, the amount of capital deployed, and capital flows into dedicated funds,” according to a McKinsey analysis of PitchBook data.

To take just one of those metrics: Climate-related private-market equity transactions grew by close to 7% last year, even as total private-market equity transactions declined by more than 24%. (From 2019 to 2022, climate-related private-market equity transactions nearly tripled.)

If we look exclusively at climate-technology companies in the venture-capital and growth-equity space, the number of deals increased by 40% last year, according to Climate Tech VC.

To maximize the impact of climate-focused investing, we must maximize both the quantity and the quality of climate-focused data and portfolio tools.

Such data and tools can help us measure the physical risks of climate change and the efficiency of specific investments. They can help us determine how individual companies align with different temperature-rise scenarios. They can help us connect reductions in portfolio emissions with real-world decarbonization. They can help us develop transition plans that properly balance mitigation and adaptation.

In short: They can promote clarity, action and accountability.

That is particularly true for the voluntary carbon market, which has a key role to play in the net-zero journey and could grow to $40 billion a year by 2030, according to Boston Consulting Group.

Markets thrive on reliable information, consistent standards and robust transparency. Right now, the voluntary carbon market is lacking in each area. Many carbon-credit buyers — and potential buyers — are frustrated with the relative dearth of monitoring, reporting and verification.?People just cannot be sure that the credits they purchase represent genuine carbon reductions.

This is where data-driven solutions come in. Integrating advanced datasets and analytics into climate-focused investment tools can give companies and investors the confidence they need to navigate the voluntary carbon market.

With that in mind, MSCI recently announced our acquisition of Trove Research, a world-renowned provider of intelligence on carbon credits.

Critics often argue that if you let companies buy credits, they will not reduce their emissions. However, when Trove researchers surveyed the emissions of more than 4,000 companies around the world, they found that the ones that use carbon credits most aggressively are actually decarbonizing twice as fast as the ones that do not use credits.

In other words, a well-functioning voluntary carbon market can serve as an effective complement to deep and sustainable emissions reductions.

As global leaders prepare for the COP28 summit in Dubai, they must remember that collective problems demand collective solutions. Nobody should expect national governments, multilateral organizations, banks and investment firms, or corporations alone to find a silver bullet for climate change. The most meaningful initiatives all demand some type of cross-sector collaboration.

MSCI will continue doing our part to advance progress across companies, industries and investor types.