Alternatives to lessen portfolio impact of climate change

Diversifying allocations across alternative asset classes may mitigate the portfolio impact of climate change — which if left unchecked could cost institutional investors upwards of $12trn over the next 20 years, according to a recent study.

Increasing capital allocations to asset classes which are able to adapt to low-carbon environments, such as private equity, real estate and infrastructure, could prove significantly beneficial to investors in the long run.

Traditional approaches to determining – and subsequently managing – portfolio risk had failed to factor in the potential repercussions of climate change, according to a recent study by investment advisory firm Mercer. Left unchecked, it added, a complacent attitude could cost institutional investors upwards of $12 trillion over the next 20 years, and add as much as 10 percent to overall portfolio risk.

Taking into account the rate of investment into low carbon technology, impacts on the physical environment and global policy towards carbon emissions over four implied scenarios, the study recommended investments in private equity, real estate and infrastructure, especially when geared towards sustainability, as part of a strategic investment plan.

“It’s important that in the face of climate change investors are developing new strategies to ensure resilience over time. We are advising investors to increase their allocation to climate sensitive assets to mitigate risks but also capture the new investment opportunities,” said Helga Birgden, head of responsible investing for Asia Pacific at Mercer in the study.

The theme was particularly relevant to Asia, since the “region in particular is vulnerable to environmental impacts”, said Birgden. She noted, however, that the “region is leading developments such as in China and East Asia in low carbon technology, which creates investment opportunities and the potential for economic transformation”.

Sustainability is increasingly become a private equity investment theme. Although it pales in comparison to corporate investment in the sector, private equity investment in renewables have been climbing year on year.

For example, according to figures from The Cleantech Group, a San Francisco-based research provider, venture capital and private equity funds invested more than $5 billion in cleantech and renewable energy companies globally in the second quarter of 2010, a slight decline over the previous quarter, but 45 percent more than in the corresponding period in 2009.

In recent months, firms like CLSA Capital Partners, Tsing Capital, Olympus Capital and GEF Management Corporation have closed or are in the process of closing new investment vehicles dedicated to Asia’s renewable sector, following commitments from investors like the International Finance Corporation and the Asia Development Bank.