Saturday, September 30, 2023

Natural capital earns investor interest

This article is an excerpt from GreenBiz Group’s 16th annual State of Green Business, which explores sustainable business trends to watch in 2023. Download the report here.

In economic terms, climate change is the result of a massive externality: an unpriced element in the production, consumption and transportation of goods and services. Fossil fuels are a primary ingredient in the eye-popping economic growth of the past two centuries, but the cost of burning them wasn’t originally factored into the equation.

Increasingly, that’s changing.

Institutional investors across the globe are taking stock of natural capital, which national economies and investors have historically neglected.

Investing in natural capital — the value extracted from soil, air, water, climate and all the living things and ecosystem services that make the economy possible — has long made environmental sense. Examples include advancing sustainable hydroponics, beef alternatives, biodegradable consumer products or degraded land restoration.

But investors are increasingly seeing the economic rationale, too. The World Economic Forum estimates that protecting nature and protecting biodiversity could generate $10 trillion annually in business opportunities, from farming to fashion to finance, creating nearly 400 million new jobs.

The question is how, exactly, all this happens. The year ahead could provide some answers.

A key stepping stone is the ongoing development of the recommendations of the Taskforce on Nature-related Financial Disclosures (TNFD), due in fall 2023. The TNFD framework is meant to bridge the information gap that exists between financial institutions and companies — in this case, providing the information needed to understand how nature-related risks impact financial performance.

The International Finance Corporation’s (IFC) Biodiversity Finance Reference Guide, launched in 2022, which builds on the International Capital Market Association’s green bond and green loan principles, launched in 2014 and 2018 respectively, also serves as a key stepping stone.

The World Economic Forum estimates that protecting nature and protecting biodiversity could generate $10 trillion annually in business opportunities, from farming to fashion to finance, creating nearly 400 million new jobs.

The IFC’s guide provides investors an overview of the types of investments that support natural capital. It is one of several organizations and collaborations working globally on some aspect of valuing nature for companies, including the Capitals Coalition, the Natural Capital Investment Alliance and the United Nations Environment Programme Finance Initiative.

So where’s the money?

In 2020, the OECD estimated biodiversity finance from all sources to total between $78 billion and $91 billion per year.

And as of this writing, the largest investment strategy with a healthy ecosystems theme was the nearly half-billion-dollar-and-growing Fidelity Select Environment and Alternative Energy fund (FSLEX), although similar funds are poised to expand greatly across North America, EMEA and APAC throughout the coming year.

As major investment firm leadership at the likes of Schroder’s, Aviva and RobecoSAM have become vocal about the role biodiversity plays in their funds’ strategies and holdings, it’s safe to expect some of the billions invested with a dual mandate on climate — that is, simultaneously seeking returns and climate impact — will increasingly be informed by biodiversity mandates, too.

That the financial sector has begun to realize that nature’s economic value is wholly dependent on a healthy climate may sound eye roll-worthy to some in the climate community, but this fact says more about the financial system’s lack of consideration for the value of natural resources than it does a lack of investor ambition. Regardless, the estimated $10 trillion dollar investment opportunity is likely to become a focusing factor.

The practical upshot: There is no path to decarbonization without major investments in natural capital. If the climate crisis truly is the largest investment opportunity in a generation, investing in natural capital is destined to become core to that opportunity.

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