COP26 sees 12% uptick in net zero commitments

The asset manager’s Real Assets Study 2021, which surveyed 584 insurance funds and 535 pension funds globally, found that, despite the increased prevalence of net zero commitments, institutions are increasingly aware of the “stark challenges” they will face in fulfilling these ambitions across infrastructure, real estate and private debt investments.

Infrastructure in particular is seen as the “biggest obstacle” for institutions looking to go net zero, with the report citing “sustainability challenges in real estate” and “the higher costs of improving properties’ environmental credentials currently adding to steep materials and labour costs on new developments”.

Real estate investments have held up better during the Covid-19 pandemic than they did after the 2008 financial crash, the report showed. Overall values fell 7 per cent compared with the 44 per cent drop experienced between October 2008 and March 2009.

Despite the exceptional challenges facing all markets, real assets have delivered robust income streams, underpinned by consistent returns and lower volatility relative to other asset classes, bringing further recognition of the all-round qualities these strategies can provide to a portfolio beyond being simply a diversification play

Daniel McHugh, Aviva Investors

“Our previous two studies in 2019 and 2020 showed the sector coming of age, with global institutional investors recognising the attractiveness of its long-term, stable cash flows and an illiquidity premium over more traditional, liquid assets,” Aviva Investors said.

“The past 18 months spanning the pandemic have shown real assets are valued just as much for their defensive qualities, consistent performance and relative lack of volatility compared to equities and traditional fixed income investments.”

Interest in real assets continued to grow, with the sector being more favoured by European pension funds than any other asset class with the exception of equities, which are equally preferred. 

In the UK, the government’s net zero strategy paper provided welcome clarity for investors, being “clear on the importance of private capital, anticipating this will provide the bulk of the additional investment needed, which is forecast to increase to £50bn-£60bn per annum over the next 10 years”.

“The argument for real assets was also strengthened by the Bank of England’s Productive Finance Working Group. In September, it said that if appropriately managed, investment in longer-term, less-liquid assets has the potential to generate better returns for investors, including those saving for retirement on defined contribution pension schemes,” the report stated.

Regulation is still seen as a challenge by some investors, however, with ongoing debate “about punitive capital charges in parts of the real assets market”.

“Given that some of the areas affected include those that will support governments’ net zero ambitions, we can expect this issue to come to a head in 2022 and 2023.”

Sophisticated ESG

The report also found that measurement and quality of reporting on environmental, social and governance issues is improving.

Pension funds were most likely (41 per cent) to cite health and wellbeing as being particularly important to asset managers focusing on real assets investing, followed by energy efficiency and carbon emissions (37 per cent), employment and skills (36 per cent), and climate transition risk (36 per cent).

Alasdair Grainger, net zero director at Grant Thornton, said: “It isn’t just about asset-level actions like recycling or turning the lights off anymore. How our clients’ capital is invested is fundamental, and will have life-changing impacts for all of us if we don’t change quickly.

“Because infrastructure is multi-generational and will be around long after 2050, it’s about trying to impress on individuals and organisations just how deep and fast the change in society needs to be to avoid disaster.”

While signing up to global climate initiatives was once seen as the way for investors to show their commitment to combating climate change, the focus is increasingly on how they deliver against those promises, the report explained.

The pandemic has also transformed investors’ perceptions of the ‘S’ in ESG, “with an awakening to the responsibilities that real assets have to communities”, it continued.

“This helps explain why employment and skills and health and wellbeing were such important issues for investors in this year’s study, issues that were well down their priority list in 2019.”

Jason Fletcher, chief investment officer at local authority pension pool London CIV, said: “Overall, we have been surprised by how well real assets have performed over the past year.

“We are also increasing our commitment to responsible investment, with our key focus being on the environment, human rights and transparency. We will be favouring asset managers who have an emphasis on ESG investing — and they can’t move fast enough in our view.”

Targets are ambitious

The report argued that a “tipping point” has now been reached with regard to net zero targets, with more than 52 per cent of insurers and 50 per cent of pension funds now planning to achieve net zero before 2050. 

“Furthermore, 92 per cent of insurers and 93 per cent of pension funds have made a commitment to reach net zero at some point in the future,” it stated.

“The reality of net zero investing is also made very clear from the respondents to this year’s study. Although they are aiming high, pension funds and insurance companies are fully aware of the challenges of achieving net zero in a world that has traditionally achieved its best returns through carbon-intensive activities, like energy and property development.”

Pension schemes were most likely to report that environmental pressures were “very” or “slightly discouraging” when considering new infrastructure investments (86 per cent), while 74 per cent said the same of modernising infrastructure investments and 70 per cent of investments in existing infrastructure.

Daniel McHugh, chief investment officer of real assets at Aviva Investors, said: “Our latest study reveals the pace at which real assets is evolving as an asset class on climate and ESG issues, and how critical those considerations are seen to investment decision-making.

“This includes a fundamental shift towards measuring and quantifying those factors, rather than paying lip service to them through pledges and policy alignment. Partly that is as a result of better understanding of the elements involved, but also as end-savers scrutinise more for potential greenwashing practices,” he explained. 

“Despite the exceptional challenges facing all markets, real assets have delivered robust income streams, underpinned by consistent returns and lower volatility relative to other asset classes, bringing further recognition of the all-round qualities these strategies can provide to a portfolio beyond being simply a diversification play.”