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Forward thinking | Article - 4 Min

The transition to a more sustainable economy won’t be derailed

In this article1, Impax Asset Management, a delegated manager of BNP Paribas Asset Management, discusses its conviction that the global economy is irreversibly shifting towards a more sustainable model in which growth is delivered with a focus on environmental and social outcomes. Despite some negative market sentiment, and a recent focus on the cost of living and energy security, they believe that the fundamental drivers of this transition remain firmly intact.

The short‑term challenges the industry has faced recently could continue, not least arising from the geopolitical backdrop and risks associated with numerous important elections in 2024.

Nonetheless, we are encouraged by signs that the tightening phase of the monetary cycle is ending. Although markets will as always be volatile, we are cautiously optimistic about the outlook. We expect 2024 will present opportunities for investors to benefit from structural, long‑term drivers of demand growth.

Recent headwinds for the transition

More challenging macroeconomic conditions have nonetheless had an impact.

Rising costs, and the monetary policy response to them, have generated headwinds for many sectors central to the transition, including renewable energy.

Inflation has increased the cost of making and installing capital‑intensive offshore wind farms, for example. Higher interest rates and financing costs have reduced consumer demand for residential solar systems.

Nonetheless, the resilience of the energy transition – and by extension the broader transition to a more sustainable economy — has been demonstrated by progress in other areas. Net renewable electricity capacity additions continue to rise year‑on‑year, powered by its competitiveness on cost and policy support. BloombergNEF estimates that new global solar PV installations in 2023 will total 413GW — 80% more than in 2022 and far exceeding expectations.    

Secular drivers of the transition

The rising uptake of emerging technologies — and the efficiency and improvements that accompany it — continues to disrupt sectors such as transport. Energy storage costs have fallen quickly: the battery packs that power electric vehicles now cost about one‑tenth of what they did 15 years ago.

With continuing cost reductions enabled by technological innovation and wider adoption, EVs could hit price parity with internal combustion engine models in Europe in 2025. Globally, EV sales continue to rise.    

Consumer preferences and demand for change are important disruptors and drivers of the transition. The long‑term trend towards greater consideration of the environmental and human impact of goods and services shapes both policy‑making and corporate action.

Research shows that half of consumers want to buy zero‑waste products this reflects the scale of opportunity for companies that can replace disposable single‑use goods with circular (recycled, recyclable or reusable) alternatives.

Demographic shifts and rising consumption in many parts of the world are placing more pressure on the environment and basic services.

The needs and demands of a growing, ageing and urbanising global population are driving a new wave of infrastructure investments, from social infrastructure such as senior living communities to resource infrastructure such as water treatment and waste management.

Policymakers increasingly recognise the need to manage climate change as one of the key tail risks to long‑term economic growth. The EU’s Green Deal, for example, aims to align industrial policy with the bloc’s climate policy.

The extreme weather of 2023 has shone a spotlight on the importance of managing physical climate risks: even with fewer hurricanes making landfall in urban areas, the US had experienced a record annual number of billion‑dollar weather or climate‑related disasters by September.

Absent adaptation measures, it is estimated that global GDP could be reduced by 4.4% by 2050 if the global temperature rise is not limited to less than 2°C.

In the long run, we believe companies that are well‑positioned for the transition to a more sustainable economy can benefit from rising demand for their products and services, and so deliver strong earnings growth relative to companies that are not.

For example, the trend towards greater electrification will create opportunities for companies such as cable manufacturers that support the expansion of global grids, which are forecast to grow by 90% in length by 2050.

Positive signals in 2024

We believe two short‑term factors also offer grounds for optimism.

First, the cycle of interest rate rises looks largely complete in major markets. Though interest rates may remain at high levels compared to the 2010s, indications that central banks are now contemplating when to cut rates have been welcomed by markets. Falling interest rates would be expected to provide a more favourable backdrop for stocks, particularly those with a long-term, growth orientation.

Second, sectors that we see as central to the transition are set to recover from post‑pandemic inventory destocking that temporarily disrupted demand. Natural ingredients and life sciences tools are among those that saw a ramp‑up in demand during pandemic‑era supply chain bottlenecks, only to see that reverse as customers have drawn down on their stocks.

Irrespective of any policy disruptions that could arise following elections this year, the transition towards a more sustainable economy has strong momentum. We believe the urgency of addressing global challenges, and the emergence of promising solutions to many of them, means the investment question has long passed from being ‘whether’ to invest through this lens to ‘how’ to invest.

[1] This is an extract from Outlook 2024 – Why prospects for a more sustainable economy remain undimmed

Disclaimer

Please note that articles may contain technical language. For this reason, they may not be suitable for readers without professional investment experience. Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients. This document does not constitute investment advice. The value of investments and the income they generate may go down as well as up and it is possible that investors will not recover their initial outlay. Past performance is no guarantee for future returns. Investing in emerging markets, or specialised or restricted sectors is likely to be subject to a higher-than-average volatility due to a high degree of concentration, greater uncertainty because less information is available, there is less liquidity or due to greater sensitivity to changes in market conditions (social, political and economic conditions). Some emerging markets offer less security than the majority of international developed markets. For this reason, services for portfolio transactions, liquidation and conservation on behalf of funds invested in emerging markets may carry greater risk.
Environmental, social and governance (ESG) investment risk: The lack of common or harmonised definitions and labels integrating ESG and sustainability criteria at EU level may result in different approaches by managers when setting ESG objectives. This also means that it may be difficult to compare strategies integrating ESG and sustainability criteria to the extent that the selection and weightings applied to select investments may be based on metrics that may share the same name but have different underlying meanings. In evaluating a security based on the ESG and sustainability criteria, the Investment Manager may also use data sources provided by external ESG research providers. Given the evolving nature of ESG, these data sources may for the time being be incomplete, inaccurate or unavailable. Applying responsible business conduct standards in the investment process may lead to the exclusion of securities of certain issuers. Consequently, (the Sub-Fund's) performance may at times be better or worse than the performance of relatable funds that do not apply such standards.

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