20 Mar. 2023
ESG investing has a bad reputation. And unfairly so. It has been dismissed as greenwashing or marketing hype. Some have even raised questions about the reliability of ESG ratings. In fact, a study conducted by InfluenceMap in 2021 found that 71% of 593 ESG funds failed a test to determine whether they aligned with Paris Agreement targets. What’s even more worrying is that 55% of 130 climate-themed funds included in the study received negative Paris Alignment scores. But this is the half-empty way of looking at things. It also doesn’t tell the whole story.
The good news is that this is changing rapidly. We’re seeing a shift everywhere from how buildings are built and maintained to how they’re regulated. On a legislative level, for example, more regulators are waking up to the importance of ESG. Regulators are even starting to pass stricter ESG-related policies and standards for buildings. There are also more ESG frameworks and standards as well as green building certifications.
The changes we’re seeing are a reason to be hopeful. They’re an indication that ESG investing is too important to ignore. The reality is that ESG investing not only makes financial sense but is a powerful opportunity to stand up and do something to stop global warming. ESG investing will play an increasingly important role in sustainability efforts, which is why it’s important to confront some of the misconceptions and myths about ESG. We do just that in this blog post, where we explore 5 things you should know about ESG investing.
Lately, it feels like carbon footprints are all anyone can talk about. Everything from a pair of unassuming sports shoes to a sweater has a carbon footprint that needs reducing. And buildings are perhaps the worst offenders, with a particularly dirty footprint. After all, 40% of all global carbon dioxide emissions come from buildings. This presents a powerful financial opportunity for REITs. Because while, on the surface, it may seem impossible to pin a price tag on carbon footprint reduction, there can be big bucks in it.
In fact, interest in green properties is growing, with more investors looking for sustainable real estate opportunities. This is echoed by Stephen Tross, chief investment officer of international investments at Bouwinvest, who made the point: “Five to 10 years ago, there was a lot of debate about sustainability, that, ‘It’s nice, but I don’t want to pay for it. Today, you don’t sacrifice returns for sustainability; you create returns with sustainability.” The other side of this coin is the cost savings that are associated with hitting sustainability targets. Real estate firm Ivanhoe Cambridge has linked $6.87 billion in debt to the poor environmental performance of its portfolio.
ESG investing can be costly and often requires capital. And yet the benefits speak for themselves. Green, ESG-certified buildings tend to generate a higher financial return than conventional, brown buildings. And this includes both rent and sales prices. A study from the International Journal of Sustainable Built Environment found that buildings with BREEAM certification earned premiums of 22% and 14% on rent and sales, respectively. This is about 21% higher than the market average (for non-certified buildings).
Then there are LEED-certified office buildings where rentals are often 5.6% higher than those for non-certified office buildings. Not only do these buildings command higher rents and capital values, but their operating and maintenance costs also tend to be lower. For example, Energy Star-certified buildings consume 35% less energy than non-certified properties. On the other hand, there are brown buildings. These buildings have poor energy ratings and, as a result, tend to have higher vacancy rates, falling rental prices and become ‘stranded assets.
There are brown discounts and green premiums. Brown discounts are applied to buildings which fail to go green and aren’t sustainable. The thing is, brown discounts are more worrying because they’re bigger than green premiums. Here’s an example: A building in the U.K was hit with a brown discount. This reduced its value by 30%. Now compare this to the so-called green premium, which might increase a building’s value by only 5% to 12%.
ESG investing done right can help you sidestep brown discounts. But more than that, brown discounts can cause property value to drop dramatically. Ultimately, this may impact where and how banks lend money. Another factor is that many utilities offer incentives to green buildings, which are able to show significant energy reduction.
ESG has been criticized for being well-meaning greenwashing. But this is changing as more ESG-related regulation directed at property owners is popping up. A good example of this is the European Union’s Sustainable Finance Disclosure Regulation which requires fund managers to disclose how sustainability risks could negatively impact the financial return of an investment. Then there’s the U.K.’s Task Force on Climate-related Financial Disclosure. This is a new standard for reporting on climate risks that wIll become mandatory in 2025. The EU, New Zealand and Canada are exploring adopting this reporting standard. We’re also seeing the emergence of more and more green building codes like the NABERS building rating in Australia.
Technology, specifically intelligent climate tech solutions, will put you in the driving seat when it comes to meeting ESG goals. These solutions will help you manage, track and transition to net-zero more efficiently. The reality is that meeting sustainability goals will be almost impossible without the right technology.
In addition to optimizing buildings and reducing a building’s carbon footprint, technology can improve tenants’ overall experience through improved air quality. Another powerful example of how technology can be used is cloud-based platforms, which adjust a building’s HVAC system set points in real-time to suit energy use patterns. This not only lowers energy consumption but can reduce a building’s CO2 emissions.
ESG is here to stay, and it’s going to color how we think about buildings. Kind of like how consumers have credit scores, we see a future where all buildings have an ESG score. And that’s good news for REITs because it means now is the perfect time to go all-in on ESG investing. While it may be a different way of thinking about investing, it’s a financially and environmentally sound approach.
So, You Want to learn more about ESG investing for your REIT?
29 Nov. 2022