The winds of climate change

Back in December world leaders finally agreed on how governments would tackle climate change through the Paris Climate Agreement. Both developed and developing countries alike are required to limit their emissions to relatively safe levels. Since that day, real estate investors have asked 'how will the success of achieving the country level emissions targets impact the property sector?'

Looking first at the EU there are already strong policies, with effective future ratcheting up mechanisms in place, which force property owners' to address carbon emissions.

In the UK for instance, the Energy Act (2011) requires all buildings to achieve a minimum Energy Performance Certificate (EPC) of at least 'E' by 2018. Currently market estimates are that 30 percent of UK commercial building stock may not meet this requirement. While some landlords will do the minimum quick fix to meet these standards, they will still need to comply with higher standards in the future: from stricter regulations and increasingly demanding occupiers.

Investors need to future-proof their investments, or risk falling foul of tighter regulation, and possibly suffer from obsolescence of assets and diminishing returns. Energy inefficient buildings will ultimately become stranded assets so investors, whether directly in bricks and mortar or via pooled property funds, should target their investments in buildings with an EPC rating of C or B. This view is driven by legislation and target milestones that are currently working their way through the legislative process.

Elsewhere across the EU, energy efficiency is set to make a major contribution to meeting greenhouse gas emissions targets.

Groups such as the Institutional Investor Group on Climate Change are actively engaging with regulators to help shape regulations, such as the Energy Performance of Buildings Directive (EPBD) and how this will be implemented. The focus of the directive is on the 20 percent most energy inefficient buildings i.e. those with EPCs of F or G. These lowest ratings may be phased out over the next few years in an attempt to bring the most inefficient performers up the scale, and the regulatory bar will continue to be raised.

At the state level the French are pushing even further with the first-ever investor climate reporting law, under Article 173 of their law on “energy transition for green growth”. French investors are already required by law to integrate ESG factors into their investment process, but are now also faced with a mandatory evaluation of the implications of climate change. This applies to all investments, including property. Meanwhile, Sweden is considering legislation based on carbon footprinting.

And the UK investor may have to consider new standards on a par with the more stringent Australian NABERS (the National Australian Built Environment Rating System), which is being considered for launch in the UK. Not only must all new buildings be designed and built to the highest energy efficiency specification, but they are also further future-proofed with the requirement to have an on-going improvement plan once the property is in operation. This ensures buildings are kept fully up to date with subsequent improvements and operating efficiencies. Since implementation, NABERS has resulted in a dramatic increase in occupier engagement in energy efficiency to the level where tenants actually specify the standards they want. The Australian model differs from that in Europe in that it is the property owner and not the tenant that is legally required to take responsibility for the running and operation of the building, and delivering on environmental targets.

It is critically important for investors to understand the cost, benefits and legislative framework behind energy efficiency when investing in property. Not only is there is a rising tide of mandatory standards, but also rapidly rising occupier demand for the most sustainable buildings. Paris has provided an overarching framework for future regulation, and reaffirmed that staying ahead by investing in future-proofed, energy efficient property is the only viable long term strategy. 

About the author

Tim Mockett, managing director, property at Impax Asset Management

Mockett co-founded the Climate Change Property Fund in 2008, before the management team joined Impax from Climate Change Capital as part of the overall transfer of the business in July 2014. Tim has invested and traded over £1 billion of property and has 28 years of experience in property investment & development.