For sovereign wealth funds, climate change is one of our age's most pressing investment risks. However, it also presents many investment opportunities to generate attractive returns and contribute to global decarbonisation. As a result, many IFSWF members attended COP28 held in Dubai under the presidency of the United Arab Emirates. Victoria Barbary, IFSWF’s Director of Strategy and Communications, joined the conference to contribute to panel discussions in the blue and green zones and gain insight into how sovereign wealth funds can play a pivotal role in financing the energy transition.
Over 100,000 people from governments, multilateral organisations, financial institutions, investors, and the corporate community attended COP this year to discuss the best ways to reduce carbon emissions and keep to the Paris Agreement target of keeping global warming to within 1.5°C of pre-industrial levels. The tone of the wide-ranging discussions outside the primary negotiations was optimistic and demonstrated a genuine desire to lean into the energy transition. The direction of travel is set. While the final language of the communique was a compromise, it is a substantial step in the fight against climate change.
Underpinning the positive atmosphere at COP were two fundamental and interlinked understandings.
The first is that, in the wake of the pandemic, governments do not have the $5 trillion required annually to fund the energy transition. Supportive politics and policies are necessary but insufficient to meet our climate change goals. The material financial firepower lies in the private sector, and this must be mobilised into low-carbon technologies, carbon sequestration, climate change adaptation and resilient infrastructure across the globe.
Consequently, discussions centred around how to finance the energy transition effectively, focusing on emerging markets, which will require $2 trillion annually by 2030 to achieve net zero by 2050. Only one-fifth of the needed financing is planned. Many contributors pointed to the success of the “government enabled, private-sector led” model pioneered by the US Inflation Reduction Act, which has exceeded expectations in the amount of capital committed from the private sector and in social good, such as the number of jobs created. The key to making this model work is efficiently using concessional capital from governments, philanthropic organisations and international financial institutions to crowd in capital from local and foreign private-sector investors. However, the structures that best target risk sharing between these actors – blended finance, co-financing, hybrid financing, etc. – remain up for debate. However, we don’t always need to reinvent the wheel to finance the energy transition. Investors can recruit existing instruments for climate ends, and sovereign wealth funds announced some initiatives during COP28:
The Abu Dhabi Investment Authority announced it had agreed a $100 million repo transaction with the Liquidity and Sustainability Facility (LSF) and the African Export-Import Bank (Afreximbank) to increase the liquidity of African Sovereign Eurobonds and incentivise Sustainable Development Goals (SDG)-related investments, such as green bonds, in Africa.
Temasek Holdings partnered with Allied Climate Partners, the International Finance Corporation, and the Monetary Authority of Singapore (MAS) to announce a green investment partnership to address climate finance gaps and increase the bankability of green and sustainable projects in Asia.
Bahrain Mumtalakat Holding Company had a busy COP, announcing it had anchored a new climate investment platform, Climate Solutions Partners, to help fund companies’ transition plans. It also launched a voluntary carbon offsetting platform and signed an MoU with Abu Dhabi’s Masdar to collaborate on developing clean and renewable energy projects in Bahrain.
Abu Dhabi’s Mubadala Investment Company, which had a significant presence at COP28, also found time to announce its investment in Zenobē, a UK-based fleet electrification and battery storage solutions provider.
The second, which emerged clearly in the final communique, is the need for a just (or fair) energy transition. The document called on nations to contribute to deep emissions cuts by “transitioning away from fossil fuels in energy systems in a just, orderly and equitable manner”. The global south is experiencing the sharp end of the impact of climate change – having contributed the least to it – and these countries need investment to help them not only decarbonise but also ensure they can adapt and are resilient and can grow and develop in a low-carbon world. The energy transition in the developing world must also support these countries’ economic and social development. As the final communique reveals, governments and investors are beginning to understand that the transition is a process, not a switch. For some emerging markets, decarbonising their economies will require using lower-carbon fossil fuels, such as natural gas, which can substantially reduce the carbon emissions of existing power infrastructure. However, as these countries’ power demands increase with economic development and population growth, renewables will need to be the solution. They are typically cheaper and quicker to develop and help tackle climate change, as well as air pollution and deforestation, which are prevalent across the developing world.
The imperative for a just transition means that partnerships and collaboration between financial market actors, governments, and civil society are crucial. Sovereign wealth funds mandated to develop their home economies have a unique role as partners of choice for private investors to ensure that all their citizens benefit from the energy transition. They can provide access to differentiated deal flow, de-risk investments through government links, on-the-ground knowledge, the ability to develop innovative financing solutions and access to expertise. However, as for-profit investors, they need to work out where in the capital stack they can bring the most value and attract the most private capital, including domestic investors.
However, many large sovereign wealth funds that invest in financial markets for long-term return will be firmly in the camp of private-sector investors looking for a profit by investing in transition technologies, companies and projects. They will need to assess all the available investment opportunities through the lens of the energy transition and, consequently, reassess the perceived risks of some emerging markets.
Either way, sovereign wealth funds have a significant role in financing the energy transition, particularly in emerging markets where long-term capital is much needed. It is not simply a case of funding major renewable energy projects in developed markets, which has been their focus to date. They can take advantage of their unique endowments as long-term investors and embrace some risks associated with new technologies, projects and markets for the benefit of humanity.