Climate change: Why are infrastructure investors aware of the risk while failing to measure it?

Noël Amenc, Frédéric Blanc-Brude and Alice James’s new article reveals that a lack of essential data means that global investors do not know how to gauge – or manage – the risk that climate change poses to their portfolios.

Their publication, entitled “Physical climate risk survey: those in the infrastructure investment industry are concerned and lack data” (1), is a very recent research published by the EDHEC Infrastructure & Private Assets Research Institute (EIPA). In it, the authors unveiled the results of an ambitious survey, which polled 70 investment industry professionals including managers of more than US$2 trillion of assets under management. Respondents said that they simply do not know how to measure climate risk.

Infrastructure assets are facing enormous risks from climate change

EIPA carried out the survey following a presentation (2) of its recent groundbreaking research papers into the physical climate risks overhanging the sector. Its investigations revealed that an investor could incur losses of 54% on the value of their unlisted infrastructure portfolio before 2050 (3) and could lose up to 600 billion dollars by 2050 due to the realisation of climate risks (4).

These estimations were produced using the Institute’s database of financial and extra-financial database on unlisted infrastructure, the largest in the world today. Indeed, the EDHEC Infrastructure & Private Assets Research Institute aims to provide investors with the necessary data and research to bridge existing knowledge gaps as it is contingent upon the understanding of their specific needs. In the last years, EIPA has thus produced numerous reports and surveys (5), and organised various conferences and seminars to engage with industry participants.

An urgent need for better data, information and new tools

The responses to the questionnaire revealed significant apprehensions and knowledge gaps among respondents. “The feedback received underscores the prevailing concern among investors regarding the measurement of climate risk,” says Blanc-Brude. “It is evident that they face a considerable deficit in the requisite data needed to assess the extent of climate risks inherent in assets and portfolios, and they are eager to address this deficiency.”

Key findings from the survey provided the following insights:

• 97% of investors polled believe that physical climate risk is significant.
• 76% anticipate a medium or high impact of climate risk on their infrastructure investments.
• Only 16% believe that there is adequate understanding of how physical climate risk will affect infrastructure assets.
• 76% of respondents find existing climate scenarios inadequate for assessing physical climate risk in infrastructure investments.
• 66% of respondents had not conducted any evaluation of physical climate risk themselves.

Importantly, the survey confirms that despite the recognised importance of physical climate risk, investors and managers lack sufficient tools and knowledge to assess its impact on their portfolios effectively.

"The survey's findings underscore the critical need for better understanding and management of physical climate risk in infrastructure investments. Despite the high stakes, there is a clear gap between the perceived significance of climate risk and the ability to evaluate and mitigate its impact effectively," explains Blanc-Brude.

The survey underscores the importance of incorporating robust risk assessment frameworks and climate scenarios into infrastructure investment strategies to address the evolving challenges posed by climate change.

Helping the investment community to assess climate risk

That said, some three quarters said that EIPA’s research had helped them to better
assess these risks and their potential impact. However, the majority of those polled had carried out no evaluation of this physical risk themselves. Amenc states that “In very concrete terms, this survey confirms that despite the importance attributed to physical climate risk, investors and managers are not in a position to estimate its impact on their own portfolio. This inability is all the more detrimental in that investor portfolios, being highly concentrated, can be very strongly exposed to physical climate risk without awareness of this”.

This lack of knowledge of risks that can be very high at asset level and the high level of portfolio concentration is a situation that, in a context in which institutional asset owners are increasingly investing in private assets, notably unlisted infrastructure, raises important questions for the risk management and solvency measurement of insurance companies and pension funds.

This high level of risk shows the importance of implementing more ambitious policies to cope with climate change. The energy transition and the alignment of economies bring a cost to private investors, but so does climate change! Importantly, however, EIPA research also showed that if the relevant stakeholders could only organise the transition towards a decarbonised economy today, extreme losses could be reduced by half.

This survey also raises the question of the right information and the management of climate risks and their financial consequences for long-term investors in infrastructure.

References

(1) Physical climate risk survey: those in the infrastructure investment industry are concerned and lack data, January 2024. EIPA Report by Noël Amenc, Frédéric Blanc-Brude and Alice James - https://publishing.edhecinfra.com/papers/2024-1_physical%7C_climate_risk_survey.pdf

(2) "It's getting physical" (Youtube), September 27, 2023 online webinar - following the publication of the eponymous report - https://www.youtube.com/watch?v=eRy6dRWSsjc

(3) EIPA Report "It's getting physical" (August 2023). Frédéric Blanc-Brude, Abhishek Gupta, Nishtha Manocha, Noël Amenc, Bertrand Jayles, Darwin Marcelo - https://edhec.infrastructure.institute/wp-content/uploads/2023/07/p1102.pdf

See also associated EDHEC Vox paper, published in The Conversation Europe "Extreme weather could burn many investment portfolios by mid-century"

(4) EIPA Report "Highway to hell" (Sept. 2023). Noël Amenc, Frédéric Blanc-Brude, Abhishek Gupta, Bertrand Jayles, Jeanette Orminski, Darwin Marcelo - https://edhec.infrastructure.institute/paper/highway-to-hell/

See also associated EDHEC Vox interview Frédéric Blanc-Brude (EDHECinfra): “Extreme Climate risks for investors in infrastructure are enormous and largely remain unrecognise, but today they can be measured thanks to EDHEC research"

(5) See EIPA website - https://scientificinfra.com/