While the ambition of net-zero carbon emissions has seen the investment industry take great strides in ensuring portfolios are greener than ever, recent events have reminded us that fossil fuels are, for now, still essential to the world economy.
The war in Ukraine has heralded a major energy crisis across much of the world with fuel prices spiking and fears in many countries that rising costs of gas and electricity could be forcing many households to choose between eating and heating this winter. Although much political effort has been expended on the transition to net zero, there is still a great need for fossil fuels to meet the basic requirements of maintaining civilisation.
Private credit providers have recently been taking steps to support green energy through carbon-linked loans. Most recently Carlyle launched decarbonisation loans, which will link pricing to the achievement of decarbonisation milestones and the achievement of other, related ESG KPIs. Elsewhere we’ve seen a push for greater standardisation of the way the industry approaches loans linked to ESG criteria by the European Leveraged Finance Association.
These are, no doubt, positive developments that will play a role in incentivising corporate borrowers to step up their efforts to reduce emissions in their business. But, realistically, gas and other fossil fuels will be essential for at least the next 20 years and the recent energy crisis has thrown this into focus.
As part of an upcoming feature on energy infrastructure debt, industry players told me that European politicians are now looking to see how they can get more capital into important areas such as gas storage and facilities for offloading liquid gas in ports as supplies from Russia dry up. However, the nature of infrastructure debt is a very long-term proposition, and fund managers need to know that gas projects will receive government support for a decade or more.
Furthermore, fund managers themselves and their LPs might need to reassess how they monitor decarbonisation within their own portfolios. Claus Fintzen, CIO and head of infrastructure debt at Allianz Global Investors, told me: “When we look at divesting from fossil fuels it is tempting to pursue companies that are already green to bring down CO2 emissions in the portfolio, but there is some merit in saying we should invest in ‘dirty’ companies and invest to allow them to make their business cleaner as this would have the effect of reducing overall emissions within the economy.”
The road to net zero is a long one, and in the short-term there can be unpredictable barriers to this progress. Taking a more flexible approach that recognises the ongoing need for fossil fuels, which can mitigate the environmental damage they are doing and also support the long-term move towards full renewable energy infrastructure, will be vital for investors hoping to support this transition.
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