The impact of climate change on human populations and economic growth around the world has highlighted the importance of decreasing carbon emissions to help generate sustainable growth. Policy changes, legislation and regulation – combined with technological innovation – provide an enormous potential investment opportunity as the world moves to decarbonize power, mobility, buildings, agriculture and industries.
Goldman Sachs professionals across four businesses — equity research, fundamental equity, alternative credit investing and open-architecture manager selection — recently provided insights about the confluence of investing and decarbonization. We highlight some key takeaways below.
(Michele Della Vigna, Global Investment Research, Goldman Sachs)
Sustainable investing & financing: Sustainable investing is gaining momentum, with U$103 trillion AUM behind Principles for Responsible Investment (PRI) signatories, and top ESG performers have generated 320 basis points of alpha per annum over bottom ESG performers since 2012, according to the GS SUSTAIN analysis. We estimate that rising capital markets engagement in climate change is driving a seismic shift in capital allocation, with the market charging an implied carbon price of US$40-80/ton for new hydrocarbon developments.
Renewable power: Renewable power has transformed the landscape of the energy industry and represents one of the most economically attractive opportunities in our de-carbonization cost curve. Our research suggests that renewable power will become the largest area of energy investment in 2021, surpassing upstream oil & gas for the first time in history, and that clean tech has the potential to drive US$16 trillion of green infrastructure investments and create 15-20 million jobs worldwide by 2030.
The rise of clean hydrogen: Clean hydrogen is a key rising technology in the path towards net zero carbon, providing de-carbonization solutions in the most challenging parts of the Carbonomics cost curve, including long-haul transport, steel, chemicals, heating and long-term power storage.
Rethinking mobility: Road transport is at the start of its most significant technological change in a century, with electrification, autonomous driving and clean hydrogen at the core of the de-carbonization challenge. Aviation sits at the top of our Carbonomics cost curve, and is one of the toughest industries to de-carbonize. Biofuels, synthetic fuels and improved efficiency are key parts of the solution.
A complete summary of the inaugural Carbonomics conference can be found here.
This has been prepared by Goldman Sachs Global Investment Research and is not a product of GSAM. The views and opinions expressed may differ from those of GSAM or other departments or divisions of Goldman Sachs and its affiliates. Please see additional disclosures in the endnotes.
(Alexis Deladerriere, Fundamental Equity, Goldman Sachs Asset Management)
We are at the beginning of a broad-based sustainability revolution that will be global and cross-sector, according to GSAM’s Fundamental Equity team. This transition may likely be on the magnitude of the US Industrial Revolution, but with the speed of the digital revolution, which we believe makes a compelling case for investors seeking exposure.
In our view, three drivers underpin this assessment. First, increased government support has propelled further investment into the clean energy and sustainability transition, from the Green Deal in Europe to China’s pledge of carbon neutrality by 2060. Second, private sector commitments are driving advancements in the space. Facebook and Google, for example, were the biggest buyers of renewable energy last year. Apple, for its part, is working across its own supply chain to ensure more sustainable practices employed and materials used. Finally, consumers themselves are becoming more aware of their carbon footprint. Changing preferences have spurred innovation, giving rise to new strategies at existing companies or new companies altogether (e.g., Beyond Meat) that cater to this demand.
(Jon Yoder, Credit Alternatives and Renewable Power, Goldman Sachs Asset Management)
Corporations, governments and education institutions are increasingly seeking to procure power from renewable energy generation facilities. Solar projects are often the best type of generation facility to meet this growing demand. In many places around the world, renewable power can be produced at a lower cost than power from conventional facilities. As a result, a purchaser of renewable power (an “off-taker”) obtains energy produced by solar projects at a cost that is less than power from the incumbent power grid. Power from solar projects is typically sold to off-takers under long-term contracts (15+ years) at fixed-rates.
Investors in solar energy projects harvest long term income streams produced from selling power under these contracts. Moreover, off-takers are generally investment grade counterparties and the returns that investors can earn are often better than the returns from owning bonds of a similar duration issued by the off-taker, thereby creating a compelling risk adjusted return in today’s low-yield environment. In our view, a potentially added benefit is that future technological advances are likely to increase investor returns on these projects. For example, if solar panels become twice as powerful and half as cheap at some point in the future, existing solar projects can be “repowered” to meaningfully increase output.
Of course, investors in solar projects do face risks. Most importantly, the value of the long term income streams, including those produced by solar projects, can fluctuate based on expectations for interest rates. This risk is partially mitigated by the excess spread that investors in solar projects are earning today, and the potential that these spreads tighten in the future to offset increases in rates. The risk may also be partially mitigated by the potential for improvements in technology that create greater power production from the projects.
(Peter Kelly, Alternative Investments & Manager Selection (AIMS) Imprint, Goldman Sachs Asset Management)
As part of the open-architecture platform, AIMS Imprint conducts cross-asset manager diligence across of number of themes related to the climate transition: energy, transportation, agriculture, waste, and forestry & ecosystem services. Assessing the best managers and strategies requires having an independent view on the potential effects of climate change, both upstream and downstream.
Take agriculture, for instance, an area that presents a strong growth opportunity. As we think about continuing climate change, there's going to be increasing variability in weather—and not just warmer weather—but more variable temperatures and precipitation. That volatility means that if one invests in cropland that requires regular access to water, volatility in water availability is material. Managers that are well-positioned may be those that can store and distribute water infrastructure, as well as implement regenerative farmland management practices.
Another example is around organic farming. There's big demand from consumers for organic. This corresponds to regenerative practices that don’t sacrifice yield and can be compelling from a climate change perspective. We see potential opportunities to invest in crop agriculture that provides compelling risk return as a farmland real asset investment. If soil carbon gets priced due to policy changes, or premiums for organic produce continue to grow as they have, then that provides of upside to our investment.
In general, across all the themes we analyze, we look for opportunities that don’t rely on significant assumptions about new policy or consumer behavior changing radically, but instead at those which may capture upside if either do change with the degree of rapidity required to mitigate climate change.