In the face of escalating climate change, the global community is finding themselves at a critical crossroads. As the world collectively strive towards undertaking decarbonization efforts to limit global warming to 1.5°C as outlined within the Paris Agreement, is this outcome still achievable? If not, what are the potential implications and how can investors and financial institutions best prepare? 

According to the latest estimates, with no further climate action, end-of-century warming is expected to reach 2.7°C above pre-industrial levels.1 Limiting global warming to 1.5°C remains technically feasible2 but, despite some positive progress, meeting this goal is becoming increasingly challenging.  

What are the positive signs?  

Rapid low-carbon technology advancements, uptake and development 

Clean technologies are becoming more cost-effective than their fossil fuel counterparts. Over the last decade, the cost of solar photovoltaic (pv) has reduced by almost 90%3, making it the cheapest form of electricity generation. Similarly, cost reductions and advances in battery technology are overcoming barriers to the widespread adoption of electric vehicles.

Sustained growth in the low-carbon and renewable energy sectors 

Decreasing costs of clean technology is also fueling a significant increase in take up, triggering subsequent cost reductions and driving continued expected growth in the low-carbon and renewable energy sectors that lower overall emissions. In 2023, investments in the low-carbon transition exceeded those in fossil fuels, reaching USD$1.8 trillion, and the International Energy Agency (IEA) predicts peak fossil fuel demand and emissions within this decade, even without further policy commitments4

Recent policy initiatives and updates 

The European Commission's roadmap to a 90% emissions reduction by 2040 shows a growing commitment to ambitious climate action. And following the example of the US Inflation Reduction Act (IRA), governments are realizing the economic benefits of a low-carbon stimulus package in attracting inward investments. This in turn, is fostering sustainable development and spurring other governments to also consider adopting similar low-carbon stimulus packages to reap the potential economic benefits.  

What remains challenging and is hindering decarbonization efforts to reach 1.5°C? 

Limited pace of policy action 

Current climate policies are nowhere near where they need to be to achieve net-zero by 2050, and the continued absence of a radical shift in global climate policy each passing year contributes to more locked-in emissions and further hinders efforts to limit temperature rise.  Last year has also seen some countries such as the UK, roll-back policy commitments in the face of rising political pressure.5

Insufficient investment in the low-carbon transition  

While 2023 has seen investments in the low-carbon transition exceeded those in fossil fuels, reaching $1.8 trillion,6 this is still less than half of the annual level of investment required to reach net-zero emissions by 2050 and limit temperature rise to 1.5°C.7

Increased risk of climate tipping points being hit 

In addition, as temperatures increase, we are drawing closer to the risk of climate tipping points being hit. One example is wildfires, where 2023 has seen an increased frequency worldwide. It is estimated that global wildfires generated almost eight billion tonnes of CO2 in 2023, with Canadian wildfires accounting for 22% and Greece experiencing the largest wildfire ever recorded in the European region.8 This staggering figure is roughly equivalent to Europe and US’ combined emissions from burning fossil fuels.   
Given wildfires are extreme weather events attributable to climate change9, the projected increase in frequency will only further contribute towards emissions and act as a barrier to limiting temperature rises. 

What does this mean for investors and financial institutions? 

The momentum and volume of decarbonization activity will have a profound impact on the world’s future in both the short and longer-term. From an investor’s perspective, there will be cascading effects on the economy, including GDP impacts, inflation as well as asset class returns which will differ between countries and sectors. For example, a tougher implementation of policies that aim to cease the use of fossil fuel technologies within a 20-year horizon may see more attractive investment opportunities emerging within the renewable energy sector in the shorter term, in comparison to an implementation that takes 30 years. The timing of impactful policy action will also likely result in different levels of physical risk impacts as well as agricultural and productivity disruptions.  

Given these profound impacts can lead to both risks as well as opportunities, financial institutions and investors who seek to gain an understanding of the potential impacts will be positioned to make better-informed investment decisions. 

How can you prepare?  

Future climate change and its effects remain inherently uncertain, but investors do have access to indicators of its trajectory and associated implications. By acknowledging the range of possible climate futures that could materialize, taking account of possible future disruptive technological change, policy initiatives and other driving factors, ‘what-if’ climate scenarios can be utilized to conduct risk analysis and stress-test investment portfolios. The quantified insights describing the financial and economic implications generated from the analysis can then be subsequently translated into robust and resilient strategies.  

Financial institutions operate in a world of uncertainty. Ultimately, by being prepared for different plausible climate futures, investors can enable themselves to not only effectively manage their risk, but also remain ready to embrace the opportunities that will arise and contribute to building a resilient and sustainable future.  

Want to know more?

To learn more about how you can generate useful financial insights with a credible climate scenario analysis, download Ortec Finance’s latest whitepaper: Generating useful financial insights with a credible climate scenario analysis.

Learn more about our Climate Scenario Analysis Solution - ClimateMAPS

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