Mobilising capital flows for sustainable development
Author: Arne Staal
The climate change debate carries particular resonance for emerging and developing economies. And equity and bond benchmarks can be an important tool in helping them mobilise capital flows for a more sustainable future.
At the recent Climate Investment Summit, which took place at the London Stock Exchange in June, I joined a panel discussing the topic of increasing clean energy capital flows to emerging markets and developing markets.
According to Selwin Hart, special adviser to the UN Secretary-General on Climate Action and Just Transition and my fellow panellist at the Climate Investment Summit, developing markets often face an outsized burden in addressing climate change.
“The overhaul of the global energy system represents the biggest investment opportunity in recent history,” Hart said at the summit.
“We need to significantly increase investments in renewables every year, everywhere, but particularly in emerging and developing economies,” Hart went on.
FTSE Russell estimated recently that, in order for the world to meet its net-zero target, the green economy needs to grow from its current level of around 7 percent of the global economy to as much as 25 percent by 2050.
But the realities of financial markets mean that reaching these targets, especially in emerging economies, will be easier said than done.
“High risk perceptions mean high premiums,” said Hart.
“The cost of borrowing in some parts of the developing world can be as high as seven times the cost of borrowing in the developed world. This, in turn, delays the transition to net zero. We need to break the cycle.”
The higher financing costs facing emerging markets are an additional burden for countries which may not be responsible for the bulk of past carbon emissions.
The debates over how to share the costs—and opportunities—of the net zero transition are likely to intensify as the urgency of addressing global warming becomes ever clearer.
But there’s a more immediate challenge facing those seeking to help emerging markets to shift to cheaper, cleaner and more reliable energy options. And that’s a lack of standardisation in the information we all rely upon.
The current consensus on financial accounting standards took hundreds of years to evolve; a common language for sustainability metrics that companies can use to report their performance is still evolving.
As CEO of FTSE Russell, part of the London Stock Exchange Group (LSEG), I see our company’s role as providing the necessary tools and scalability to our clients, whether that’s indices to mobilise capital, or data and analytics to give transparency and enable decision-making.
But all too often in my conversations with large asset owners around the world, I find that when it comes to the greening of the economy and the net-zero carbon transition, everybody speaks a different language.
It’s one thing to say that we should commit and invest with impact. But that may mean different things to different asset owners. And all that translates into very fragmented outcomes.
We therefore need more standardisation, more focus and more commitment.
The LSEG supports mandatory sustainability disclosure rules, which would help to cut transaction costs and unlock the information that the financial sector needs to drive the net-zero transition.
For us, the issue is getting transparency on what is going on: we need to be able to measure things and provide the data to decision-makers so that they can make the right decisions and measure the impact they are having.
At the same time, we cannot underestimate the role of indices and benchmarks in helping build a more sustainable economy, including in emerging markets.
We have about $20trn passive AUM tracking our indices globally. By far the bulk of the total follows market capitalisation-weighted benchmarks like the Russell 1000, the FTSE 100 and the FTSE Emerging Index.
But because a lot of asset owners and pension plans are driven by their benchmarking guidelines, we increasingly hearing the call to make all of those standard indices Paris-aligned.
Between December 2020 and December 2021 we saw a 110 percent increase in assets tracking our sustainable investment indices globally.
Over time we expect most main benchmarks to reflect climate objectives. As a signatory to the Net Zero Financial Service Providers Alliance, LSEG has committed to aligning the products and services we offer with a target of net zero greenhouse gas emissions by 2050 or sooner.
Realigning benchmarks in this way is not an easy thing to do, because there are very different views from different parties around the world. But I think such a shift is coming and it would have a very direct and practical impact in addressing climate change, particularly in emerging markets.
Meanwhile, at LSEG there’s a lot of focus on how to make sustainable capital flows possible, both on the public and the private side, and how to raise levels of transparency on vehicles, listings, funds and so on.
Sustainability data is key to achieve that objective, and we find it missing in many cases. So we are very focused on making that data available.
I do see very fast adaptation of passive, public market solutions, also geared towards developing and emerging countries. Those flows are definitely mobilising and the trend has been accelerating since COP26.
In the meantime, I feel the urgency in the debates we have with regulators, industry associations and asset owners. When it comes to climate change, time is running out.
We face an immense task, particularly in emerging and developing markets, when seeking to transform an entire energy system based on coal, oil and gas to one based on clean energy. But I’m also optimistic. People are putting more behind it, they are becoming more focused and the momentum is positive.
Indices are already playing an important role in mobilising capital to support this goal. Large asset owners, particularly those from the Nordic region and in the UK, are already aligning portfolios worth billions of dollars to climate benchmarks. And this movement is growing.
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