For nearly 30 years, the United Nations has hosted an annual gathering of countries with the specific focus on climate change. This Conference of the Parties (COP) brings nations together to address and tackle global warming. A breakthrough was made at COP21 that saw the adoption of the Paris Agreement. Signed in 2016, nearly 200 nations committed to the goal of keeping the long-term, global, average temperature rise to below 2⁰C (preferably 1.5⁰C) compared to pre-industrial levels. Under this agreement, members are expected to submit their plans for carbon-emission reductions – known as Nationally Determined Contributions (NDCs). This year the 28th COP was hosted in Dubai, United Arab Emirates. Controversially for some, the CEO of UAE’s state-owned oil major was appointed the president of the COP. This led to a lot of negative press before the conference, but it is fair to say, that Sultan Al Jaber did a good job balancing the need to bring both sides of the energy debate to the table in reaching what is being called the UAE Consensus.
Fossil fuels and energy systems: a last-minute, dramatic, overtime result
Despite significant delays and overnight negotiations, COP28 culminated in a landmark moment as 199 nations agreed to the "transitioning away from fossil fuels in energy systems in a just, orderly and equitable manner". What is particularly momentous about this occasion is that this is the first time that fossil fuels have been explicitly referenced in United Nations Conference of Parties (COP) documents.
There was legitimate fear that the negotiating deadlock over the future of fossil fuels would prove irresolvable. The final Global Stocktake draft text included references to “accelerating action in this critical decade” by reducing fossil-fuel usage in energy systems to achieve net zero by 2050. Additionally, “phasing out inefficient fossil fuel subsidies” was cited in the deal text indicating further positive intent for reducing emissions.
This COP should be seen as a step in the right direction given the explicit acknowledgment of the need to transition away from fossil fuels in energy systems.
Negotiations were challenging and provisional drafts were deemed too strong by some nations and not ambitious enough by others. A key dispute was over the use of specific wording, namely Phasing-Out vs. Phasing-Down, regarding the future use of fossil fuels. Saudi Arabia, Iraq, and other OPEC nations were widely identified as countries leading the pushback against stronger language on curbing fossil-fuel production. This stance was also supported by a negotiating group that includes China and India. In opposition, African nations and smaller climate-at-risk countries such as the Marshall Islands, warned adaption targets and finance provisions needed to be stronger. During the negotiating stages, we witnessed the UK government supporting the ‘phase out’ language, but it highlighted its support for the use of abatement technologies such as carbon capture. Interestingly, The High Ambition Coalition, which has significant support from the US, was eager to see a deal that provides a clear signal that the fossil-fuel era is coming to an end.
Outside of this, more than 800 signatories including CEO’S from Nestle, SSE, and Roche alongside scientists, global leaders, and celebrities including Ellie Goulding and Mark Ruffalo. This group called on COP28 parties to deliver clear plans for an orderly phase-out of all fossil fuels, a scaling up of finance for climate initiatives, and increased measures to protect biodiversity.
In summary, this COP should be seen as a step in the right direction given the explicit acknowledgement of the need to transition away from fossil fuels in energy systems. Expectations heading into the conference were quite low due to the negativity surrounding the host location and the apparent conflict of interest for President Al Jaber. This COP certainly provides a turning point in the globally coordinated effort to tackle emissions and climate change and it should be received positively. Ultimately, only time will tell if the countries are able to respond effectively and this will be judged at the next opportunity when NDC’s will be reassessed.
Other important outcomes
Although the landmark commitment to transition away from fossil fuels in energy systems has taken centre stage at COP28, there have been many other important pledges, declarations, and outcomes that are just as important to investors. COP28 focussed on a variety of topics, from regulation and accounting standards to nature and protecting communities. Many of these topics will have wide-reaching implications for investment portfolios – some small, some great – and so we have made an effort to assess some of the other important outcomes and what the implications may be.
Energy Market pledges and declarations
Although the fossil-fuel language in the Global Stocktake draft was the key focus for journalists, there were an exceptional number of pledges and declarations to support the more operational elements of transition. The implications for sub-energy industries are wide, both in terms of risk and opportunities, but there is no denying that the focus is now on how to meet net zero, rather than setting the parameters of net zero.
It is recognised that we must see zero-carbon sources move from 39% to 87-90% globally by 2027 and the following pledges and declarations have been confirmed to support this goal.
Fossil Fuels in non-energy systems
While there has been a specific focus within the Global Stocktake draft text on transitioning away from fossil fuels in energy systems, it cannot escape attention that carbon-intensive industries exist outside of energy. Although these industries contribute large sums towards the global carbon budget (~22% of global emissions annually), abating other heavy-carbon industries including cement, steel, and chemicals is more challenging. This is predominantly due to factors such as the need for high heat and process emissions of carbon dioxide, and economic factors including low profit margins, capital intensity, and long-asset lives.
Consequently, we witnessed the launch of the Industrial Transition Accelerator (ITA) to help tackle these challenges. The aim is to accelerate decarbonisation across sectors and to encourage policymakers, technical experts, and investors to work together with industries to rapidly scale emissions-reduction projects. This initiative will not only seek to increase demand for green solutions but also lobby on policy, encourage new financial products, and highlight opportunities to decarbonise hard-to-abate industries. Ultimately, industries such as shipping and cement have received far too little capital to fund projects which cut their emissions in line with world climate needs.
Financing the transition
It remains widely acknowledged that there is an urgent need to overcome financing hurdles for the transition. New pledges from governments and the private sector poured in at COP28, emphasising the importance of capital flow towards green activities. Transition support for developing economies is crucial, with a need of at least USD 2tn annually, according to a report by UNCTAD.
Here are a few of the financial pledges made:
- USD 188 million pledged to the Adaptation Fund
- USD 726 million pledged to a Loss & Damage Fund
- USD 30 billion catalytic fund, ALTÉRRA, set up with an emphasis on unlocking private finance across the Global South
- USD 3.5 billion allocated to the Green Climate Fund
- USD 100 million contributed to the Methane Trust Fund
- USD 300 million earmarked to a Climate Disaster Fund
Low-carbon construction commitment
We witnessed seventeen countries, including the UK, the US, Canada, and Australia, commit to advancing policymaking for low-carbon construction and sustainable-source wood deployment by 2030. The aim is to reduce steel and cement demand in favour of more sustainable practices. The impact this could have on both the steel and cement industries, as well as the opportunities we could see across other sectors, could be impactful in time.
Voluntary Carbon Markets (VCMs) and Carbon Credits
It was proposed at COP28 that VCMs are a practical solution in the absence of global caron-market policy action, thus we expect this nascent industry to continue to advance. Like any young industry, it has not been without issue and there have been several high-profile cases whereby Carbon Credits have been mis-sold and companies have failed to undertake their due diligence accordingly while trying to offset their carbon footprints. Thankfully, The Integrity Council for Voluntary Carbon Markets (ICVCM) was set up earlier this year as an independent governance body to tackle fraudulent offsets and has been contributing to the conversation in this space to ensure companies do not fall foul of fraudulent offsets and inadvertently be accused of greenwashing.
International Sustainability Standards Board Support
ISSB was announced at COP26 (Glasgow) as a proposal to establish a global baseline of sustainability-related disclosures by companies. It made key announcements at COP27 and has delivered its proposed financial-reporting framework over the past year. At COP28, the proposed climate disclosure accounting framework gained support from 64 jurisdictions and nearly 400 organisations, including direct support from The LSEG and the Taiwan Stock Exchange.
We expect the adoption of ISSB globally in due course, particularly given that the FCA has signed the Declaration of Support; thus, sustainable factors and metrics will be considered more widely globally in fundamental stock analysis alongside financial accounts/reporting. This is likely to have a large impact on the way that financial markets price investments in the coming decades.
Nature, agriculture and a just transition
This year we witnessed a greater focus on nature and agriculture than in previous years. There is wider acknowledgement that all systems are interlinked, and policymakers and investors must balance these (occasionally opposing) demands. We witnessed the UN launch a pathway to end world hunger aligned with the 1.5-degree goal in mind – this is key given the implications of not transitioning in a just way. Other pledges we saw included the UK introducing anti-deforestation laws for supply chains and an intention to ban imports linked to illegal deforestation. This will put further pressure on corporates to ensure their supply chains are cleaned up, not just from a labour perspective. One other positive development was that the UK provided a delivery plan for achieving domestic conservation goals through 2030.
Much of the focus from these events is at a macro level but this clearly trickles down into potential opportunities and undeniable risks. There are ranging opportunities and risks which we will continue to monitor but here are a few of the more pressing implications:
Oil and gas – long-term risks only grow from here
Clearly, there is now a ticking timer for investments in this sphere to truly plan their longer-term approaches. This risk has always been present especially when considering the global goal of reaching net zero by 2050. The debate of divesting vs. engagement is well-trodden at this point but the outcome agreed at COP28 is highly likely to see growing volume and engagement pressure from investors urging for transition clarity. The likelihood of any near-term change in appetite looks limited and there was little-to-no price action on the day of this announcement for the large, listed oil and gas companies. Moving forward this is clearly something to monitor at forthcoming COPs as the possibility for language around fossil fuel to be strengthened as the debate on “Phase Out vs. Phase Down” continues. We will be monitoring how this plays out in the business strategies of oil companies, whether transition plans rise up the C-suite agenda and how operating and capital expenditure budgets/forecasts change as a result of more global pressure to decarbonise.
Renewable energy set for much-needed support and significant expansion
We highlighted above that 124 nations agreed to a pledge to triple renewable-energy capacity globally by 2030. The agreement will hopefully provide relief, especially for the wind sector which has struggled in recent times due to higher costs and lower pricing and has led to challenges and cancellations from major developers including Orsted, Siemens Energy, and BP, all of whom have encountered issues recently. Whilst investment in Western economies is mature and an established investment market, the opportunity is still highly compelling particularly in regions that are less developed where widespread adoption is still limited. Examples include solar energy in Africa and other obvious sun-belt locations, or wind farms in Pacific Island areas where wind speeds are more regular and stronger, and therefore more reliable.
Other alternative energy sources may also benefit from COP28 with nuclear and hydrogen referenced in agreements. Small Modular Nuclear Reactors are an emerging area of popularity. Hydrogen, despite being a hugely abundant element and a historically significant energy source, is still an emerging investment opportunity.
There are various methods and technologies viable in this space, so the opportunity set is considerably wider. The goal for doubling energy efficiency by 2030 has been set without a baseline year for comparison. As such, it will be important to see the implementation methods that supporting nations will use to address this point before looking investment opportunities that may benefit. Enablers, inputs, and supply chain contributors may offer potential upside to support the energy-efficiency revolution.
Carbon Capture Storage technology
Carbon Capture and Storage (CCS) is a big passion project for the host nation and surrounding Petro-states. We note that CCS features consistently throughout documents and was heavily cited in many draft documents – although it has not been without criticism and thus far has failed to deliver the reductions in greenhouse gases on the scale required to keep pace with the transition. With that said, non-energy carbon-intensive industries will need to find a way to rapidly reduce their carbon impact on the planet; this seemingly only looks viable via CCS in the near future.
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