Going Net Zero: More Than Meets the Eye

October 31, 2021

For two weeks beginning Oct. 31, world leaders will gather in Glasgow, Scotland, for the 26th United Nations Climate Change Conference of the Parties (COP26). One of COP26’s goals is to drive ever-more ambitious emissions reductions to try to ensure that countries attain net-zero carbon emissions by 2050. Achieving carbon neutrality is gaining momentum, as evinced by the number of governments, corporations and asset managers that have made net zero pledges. It is easy to get wrapped up in the euphoria. Optimists say these groups believe in the benefits of making the planet greener, cleaner and safer; cynics believe these groups are interested only in positive PR. Whatever their motivations, those making the pledge will soon discover they’ve embarked on a journey that is deceptively challenging. For investors, it is crucial they learn the terrain; a number of new standards and best practices are in the works, and there is an opportunity to contribute to this journey’s direction.

At its core, net zero requires three things: measuring one’s carbon footprint, enabling emissions reductions programs and offsetting residual emissions. And while there are some standards in place to help firms work through the intricacies, going net zero can be a particularly arduous path for private markets. GPs face the difficult task of measuring emissions for their internal operations as well as their entire portfolios. The LP community must contend with disparate data: The listed portion of their portfolios is further along in its carbon footprinting journey than is the unlisted portion. LPs, rightfully, would like to measure the footprint of their entire portfolio, private and public, on the same basis.

Like most journeys, this one is made more endurable by not going it alone. By exploring the issues facing LPs and GPs, we hope to help build the mutual understanding that so often makes even the most grueling treks bearable.

Greenhouse Gas Basics

Global warming is the result of the so-called greenhouse effect. As sunlight passes through Earth’s atmosphere, it refracts. Because the frequency of the light beam has been altered, it cannot exit.1 Some of this is by design. Without this trapped warmth, our planet would be unbearably cold. But as the atmospheric concentration of certain gases has risen, so too has the amount of trapped solar energy. The main greenhouse gases (GHGs) are water vapor, carbon dioxide, methane, nitrous oxide and various fluorinated gases, and each one can “live“ in the atmosphere for anywhere from several years to millennia.

Because it takes years for certain forcing GHGs to leave the atmosphere, their effect is cumulative. We are still reckoning with past emissions; new emissions compound the warming effect. CO2 is the most notorious GHG, which is why we tend to translate other GHGs to their CO2 equivalents (CO2e).2 When people speak about their carbon footprints, they are technically referring to their CO2e footprint.

Though many still hold a narrow view of climate change, solely equating it with warmer temperatures, the scientific community has found that a greater concentration of GHGs results in more energy in the weather system. More energy implies greater volatility and a higher probability of extreme weather, which ought to be of grave concern to the world’s asset owners. Our world has become riskier, and climate change is perhaps the biggest risk we face. As such, the weight we place on it when pricing assets is only increasing. An asset cannot be valued correctly if its owners have not estimated its exposure to the physical risks that climate change heralds or its emissions profile. And, if they haven’t done either of those things, they cannot commit to going net zero. To achieve these goals, asset owners need to measure their carbon footprints.