The Great Energy Transition: Moving to a carbon-neutral future

28.06.2021

The energy transition is the pathway towards transformation from fossil-based to renewable, zero-carbon energy sources in order to meet the 2015 Paris Agreement and Government targets by 2050. At its heart is the need to reduce energy-related CO2 emissions to limit climate change.

Regulation to drive an increasing commitment to decarbonisation will ensure that the energy transition will continue to increase in importance, accelerating the societal push towards sustainability.

The Paris Climate Agreement states that all signatories (including the USA now) will reduce their carbon footprints by more than 50% by 2030 and by 100% by 2050. The target is to limit global temperature rises to well below 2 degrees Celsius by 2100.

However, according to the United Nations, emissions need to be reduced by 25% to meet the Paris Agreement targets of 2oC[1]. The International Energy Agency estimates that a low-carbon transition could require US$3.5 trillion in energy sector investment every year for decades[2].

The energy transition also becomes even more critical because against a backdrop towards more zero-carbon, overall power demand will increase 60% globally through to 2050, driven mostly by expanding non-OECD economies[3] alongside a growing global population, which is expected to reach 10.9 billion 2100 (from 7.1 billion today)[4].

Renewable energy and energy efficiency measures can potentially achieve 90% of the required carbon reductions- IRENA, 2021

It’s not just about switching coal to renewables or a move towards electric vehicles

The energy transition is not only about the shift from coal power to renewables. It also includes other areas, such as energy storage, energy in transportation and distribution, and how industry and manufacturing is moving to higher sources of renewable energy in their production and manufacturing processes.

All sectors of the global economy will require dramatic emissions reductions over the next several years – total energy use accounts for around 73% of total global emissions.

Source: Our World In Data. Total greenhouse gas emissions were 49.4 billion tonnes CO2eq, 2018

There are also tailwinds developing that can help the energy transition and technological change to make clean energy more affordable and available. For example, the cost of renewable energy has declined rapidly over the last ten years, with onshore wind declining by 39%, offshore wind by 29%, while concentrated solar powers costs have fallen by 47%[5]. Furthermore, energy storage, such as battery packs, which are important to the large-scale adoption of renewable energy, have fallen 86% in real terms between 2010 and 2019.[6]

The world’s total renewable-based power capacity is forecast to rise 50% between 2019 – 2024, according to the International Renewable Energy Agency (IRENA). The large-scale investment, combined with lower costs, create some unique opportunities for issuers at the heart of the energy transition, which we believe could benefit from re-ratings.

The power of change

In combination with Green Bonds, the focus of our allocation in the Climate Bond Strategy will be predominantly on those issuers at the forefront of energy transition in sectors such as Utilities, Oil & Gas, Industrials, Materials and Transportation. Issuers in these sectors can be high emitters, although some have shown a strong commitment to reduce their carbon emissions and environmental impact.

Issuers that are forward thinking, and are embracing change through the issuance of green bonds to finance green projects, are looking for efficiencies within their supply chains through cleaner technology and developing cleaner energy sources.

These issuers are maintaining shareholder value by repurposing existing assets and strengths to make the transition happen. Some examples include Total, BP, Equinor and Ørsted. In this instance, the energy transition has been embraced leaving potential losers as large-scale winners. Ørsted, formally the Danish Oil and Natural Gas Company, is one of Denmark’s largest energy companies – it has transformed itself. In the last 10 years, Ørsted changed its business model from a focus on fossil fuels to renewable energy. In fact, this energy utilities company is growing its renewable portfolio while shrinking oil and gas production. Ørsted went from 15% renewables in 2009 to 85% in 2019 and significantly reduced its future exposure to environmental regulations and risk of stranded assets.

Borselle 1 & 2, the world’s second-largest offshore wind farm, cements Orsted’s dominance as the top offshore turbine installer in the world. Ninety-four Eiffel Tower- sized wind turbines make up Borselle 1 & 2

Source: Ørsted Investor Presentation, Q1 2021

More recently, in May 2020, Total adopted a new climate ambition to get to net zero by 2050. These examples highlight the importance of the oil and gas sectors in the energy transition.

Despite the pandemic, oil demand is expected to return to 2019 levels by late 2021 or early 2022[7] as economies grow. In 2019, the International Energy Agency announced that ‘the world’s thirst for oil will continue to grow until the 2030s and climate-damaging emissions will keep climbing until at least 2040.[8]

We believe this makes engagement with oil and gas companies an important part of a climate strategy, incentivising the move to low-carbon technologies, including renewables, bioenergy and carbon capture to reduce greenhouse gas emissions. This will be one part of our engagement strategy.

Momentum of change

Our focus is to assess the momentum of change in how issuers are successfully reducing their emissions.

We have a structured framework in place for engagement and collecting metrics. We are looking at three key areas – issuer companies with high (direct and indirect) greenhouse gas emissions; issuer companies in sectors that have a major role to play in the transition to a net-zero emissions economy; and, finally, companies not aligned with 2 degrees C. We then allocate our time based on priority sectors.

The top priority sectors are more energy intensive and include Utilities, Energy, Basic Materials, Industrials, Transportation and Energy Intensive Consumer Goods. Second tier sectors include technology, financials, communication and healthcare.

We’ll leverage leading data providers and standards (Trucost, Science-based targets initiative and Transition Pathway initiative) to track company emissions over the medium term and assign individual companies a ‘’temperature’’ summarising its climate alignment so our approach is in line with science-based international best practice.

In summary, through our energy transition approach, our Climate Bond Strategy has the flexibility to invest in any issuer, from any sector, focusing on those issuers that are thinking about reducing their emissions, using cleaner and more efficient power sources.

[1]www.europarl.europa.eu/meetdocs/2014_2019/plmrep/COMMITTEES/ENVI/DV/2020/12-10/EGR2020_ENVI_10DecEN.pdf

[2]www.imf.org/external/pubs/ft/fandd/2019/12/pdf/fd1219.pdf

[3]Bloomberg, New Energy Finance, 2020

[4]Pew Research Centre, 2019, https://www.pewresearch.org/fact-tank/2019/06/17/worlds-population-is-projected-to-nearly-stop-growing-by-the-end-of-the-century/

[5]https://www.weforum.org/agenda/2020/11/cost-renewable-energy-falling-race-to-zero-emissions/

[6]Deloitte, the 2030 decarbonisation challenge, 2020

[7]www.mckinsey.com/industries/oil-and-gas/our-insights/global-oil-supply-and-demand-outlook-to-2040

[8]www.marketwatch.com/story/world-oil-demand-will-keep-growing-until-2030-climate-damaging-emissions-longer-says-iea-2019-11-13

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