Carbon Delta: the value of avoiding carbon risk

by Oliver Marchand

As has been well documented by the scientific community and in the mainstream media, the effects of climate change are growing with each passing year. To date we have witnessed a global temperature increase of 0.8°C. Many analysts, investors and advisors however, are unaware of the fact that another 0.5°C of warming is already “locked in”, even if the world’s population completely stopped emitting greenhouse gases this minute. This is due to the current level of CO2 in the atmosphere and the inertia associated with the warming process.

The resulting changes to the environment, both subtle (shifts in growing seasons, animal and plant habitat) and extreme (hurricane intensification, drought, flooding) will have impactful and significant influence on the economy and the markets far into the future. The warming process will continue for decades, completely independent of market forces. In addition, as more and more governments embrace the realities of climate change, they are adopting policies to address it. These include carbon taxes and caps, land use regulations, and the transfer of subsidies from traditional carbon based energy sources to renewable sources. All of these policies will have far reaching effects on the market.

Investors and markets are now realizing that this will be one of the largest factors driving the market in the years and decades to come. Recent surveys have shown that more and more investors are incorporating ESG (environmental, social, governance) data in their investment strategies with the environment, and climate change in particular, standing out among all other factors. Valuations of stocks and commodities are equally driven by projections. The increasing awareness of climate change will increase its effect in the market. Altogether, climate change in financial terms will continue to be a “mega-trend”.

A further important consideration is that the economic effect of climate change on the market is of a completely different nature than most traditional financial drivers. Conventional economic theory states that established markets trend to an equilibrium price that reflects all the underlying factors of that particular market. Climate change is driven, and best understood, according to physical laws. Market trends, however, can be interpreted according to various nuanced theories. One of these, which is important to addressing the effect of climate change on the market, is reflexivity.

The basic theory of reflexivity dates back to the 1920s, but was made widely popular by economist and star investor George Soros. His financial success has been attributed to a successful application of the theory of reflexivity to newer markets, as well as to those that have been subjected to large shifts of their underlying conditions. Though an efficient way of coming to grips with market dynamics, reflexivity runs contrary, in some ways, to the idea that markets are inherently efficient. Reflexivity accounts for the role of self-fulfilling prophecies in how market dynamics evolve: “If we all think that the value of something is $5, then it is immediately worth $5.”

So why is reflexivity such an important factor in how climate change affects the market? Anthony Giddens, a proponent of reflexivity has observed that “over time, society is becoming increasingly more self-aware, reflective, and hence reflexive.” As previously stated, investors are increasingly addressing climate change as it applies to investment strategies. An important feature of reflexivity is it is most prominent when investor bias grows and spreads throughout the investment arena. Reflexivity has demonstrated that investors’ observation of and participation in the capital markets may influence valuations and fundamental conditions or outcomes.

Stepping into a current void in the financial world by providing financial professionals with data products tailored to understanding climate change is a new player. Carbon Delta is an innovative Swiss based fintech startup with global aspirations. It is Carbon Delta’s strict focus on climate change that makes it unique. Classical providers like Bloomberg and MSCI, or even specialized ESG data providers, are far too broad to permit investors to focus on the effect of climate change on the market. This specialization will give a clearer understanding of its effects on the market and directly aid investors in both short- and long-term investment policy. Carbon Delta’s initial offerings include carbon ratings and factsheets of individual companies, 2°C compatibility checks of portfolios, and assistance with clients’ CSR reporting related to climate change. The proliferation of Carbon Delta data products will have the effect of accelerating this process.

In conclusion: As the effects of climate change become more prominent in everyday life, and as more public policy groups begin to address these issues, they will have an ever-increasing effect on the financial markets. Some of this will be in direct response to the occurring changes, but much of this will also be magnified by reflexivity. Better understanding of climate change as it pertains to the financial markets will not only permit investors to realise larger gains, but also better enable the market to address the environmental needs of our world. The market reflexivity of climate change will lead to a big transformational process that Carbon Delta helps to accelerate by identifying the needs and areas where investors can anticipate this transformational change.