On the Minds of Investors - October 2021 - J.P. Morgan Asset Management
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MARKET INSIGHTS
On the Minds of Investors
October 2021
Getting ahead of COP26 and what it
means for investors
This November sees the UK play host to COP26 – the 26th Conference of Parties –
where global leaders from almost 200 nations will come together and discuss climate
objectives and, more importantly, revisit the commitments made as part of the 2015
Paris Agreement. The parties are likely to agree that efforts will need to be meaningfully
increased to ensure that achieving net zero by 2050 is within reach. In the coming years,
investors can expect a raft of policy changes, with governments increasingly targeting
public spending on infrastructure. Corporates are likely to face higher costs as a result of
broader adoption of carbon pricing systems, but may find that capital markets reward
them for focusing future investment spending on climate-related projects. Companies
that can get ahead of the impending change and work with governments to achieve their
goals may benefit from first-mover advantage. We discuss the technology and policy
developments required to reach net zero in more detail in our paper, “Achieving net
zero: The path to a carbon neutral world.”
MORE AMBITION REQUIRED ON THE PATH TO NET ZERO
The main aims of the Paris Agreement were to keep global temperatures from warming
above 1.5 degrees Celsius and effectively reach net zero greenhouse gas emissions by
2050. Countries were asked to submit their own emission reduction targets in the form
of NDCs (Nationally Determined Contributions) and review them every five years.
Importantly, COP26 is the first meeting of global leaders since the end of the first five-
year period. We now know that the proposals set out in 2015 are not sufficient to meet
AUTHORS the target of restricting global warming to 1.5 degrees.
Just over 110 parties – accounting for around half of global emissions – have submitted
new NDCs, but the United Nations (UN) has judged that these proposals still fall well
short of the degree of change required to meet the 1.5 degree target. The UN estimates
that current national plans will lead global emissions in 2030 to be around 16% above
2010 levels. In order to be consistent with the 1.5 degree target, 2030 emissions need to
Hugh Gimber be below 2010 levels by 45%. With progress wide of the mark, the current proposals and
Global Market Strategist potential improvements are expected to form a significant part of discussions at COP26.
The US, UK and European Union are all among those to have submitted new plans to reach
net zero by 2050. The US has pledged to cut net carbon emissions in half by 2030 (relative
to emissions in 2005), while the EU plans to reduce its emissions by 55% by 2030, relative
to 1990. The UK has one of the most ambitious plans, aiming to cut emissions by 68% by
2030 (relative to emissions in 1990), but is responsible for less than 1% of total global
Jai Malhi
greenhouse gas emissions. In fact, these three developed nations make up just 25% of
Global Market Strategist global carbon emissions, which only makes clearer the need for global coordination.
ON TH E M I N D S O F I N VE STO R S
Herein lies the challenge at this conference. A significant The metrics used to measure emissions make a huge difference:
number of countries have still not submitted an update of their on a per capita basis, the US has a greater level of emissions
emission reduction targets. COP26 can only be deemed a than China (EXHIBIT 2 ). It is also worth noting that around 14%
success if all countries – including those with the highest of China’s carbon emissions are attributable to goods that are
emissions – decide to increase ambitions when they update exported and consumed abroad, which underlines the major
their targets for the next decade. China has not updated its NDC role that recipients of China’s exports have to play in helping
but has stated its intention to reach peak carbon emissions by China to reduce its emissions. Another key expectation from
2030 and net zero by 2060 – a pledge that does not go far COP26 will be for developed countries to make good on their
enough for a country that is responsible for the largest amount promise to deliver at least USD 100 billion in finance per year to
of global carbon emissions. Undoubtedly, China will argue that support developing countries in their climate goals. OECD data
the onus should be placed on developed countries, which suggests that around USD 80 billion was mobilised in 2018.
initiated the industrial revolution, have a longer history of Commitments to increase this support will perhaps encourage
emissions and have the financial means to cut down on them some of the important developing nations to step up their
(EXHIBIT 1 ). With China’s attendance at COP26 still in doubt, the carbon-reduction initiatives.
potential for climate disputes to catalyse geopolitical tensions is
increasingly clear.
EXHIBIT 1: US AND CHINA CO 2 EMISSIONS OVER TIME
Billion tonnes
12
US CO2 emissions
10 China CO2 emissions
8
6
4
2
0
1850 1874 1898 1922 1946 1970 1994 2018
EXHIBIT 2: GLOBAL CO 2 EMISSIONS PER CAPITA
Tonnes, 2019
20
16
12
8 16.1
11.5
4 8.7
7.1 6.4
1.9
0
US Russ ia Japan China UK & EU India
Source: Global Carbon Project, Our World in Data, United Nations, J.P. Morgan Asset Management. CO2 emissions are from the burning of fossil fuels for energy and cement
production. Emission impact from land use change (such as deforestation) is not included. Data as of 30 September 2021.
2 G E T T I N G A H EA D O F C OP2 6 AND W HAT IT M EANS F O R INVES TORSON TH E M I N D S O F I N VE STO R S
CONSIDERATIONS FOR INVESTORS
Investors should be prepared for climate-related headlines in the coming weeks, as COP26 acts as a catalyst for governments and
corporates to make new, more ambitious commitments. We expect this to impact financial markets in multiple ways.
Green bond issuance set to grow EXHIBIT 3A: GLOBAL SUSTAINABLE, SOCIAL AND GREEN BOND ISSUANCE
Green infrastructure spending will be a major focus for Green $298B $185B
governments that are under pressure to demonstrate their Sustainable
climate credentials to an increasingly green electorate. Social
There are already several examples. The Biden administration’s
USD 2.3 trillion American Jobs Plan includes multiple spending
measures aimed at clean energy technology and the transition $255B
to electric vehicles. It is a similar story across the Atlantic,
$6B
with the UK government’s Ten Point Plan for a Green Industrial $84B
Revolution aiming to generate 250,000 green jobs. In Europe,
at least 30% of spending in the EU’s EUR 750 billion recovery $4B
fund must have climate-related benefits. Yet with more than $1B
$1B $3B
USD 13 trillion of global investment in electricity systems alone 2012 2016 2020
estimated to be required by 2050 if net zero targets are to be
reached, the scale of the challenge is clear. Source: Climate Bonds Initiative, J.P. Morgan Asset Management. Data as of 30 June
2021.
A rise in green bond issuance will be the key means by which
governments will fund new climate-focused spending. The
EXHIBIT 3B: SPREAD BETWEEN GREEN AND TRADITIONAL CORPORATE BONDS
European Investment Bank became the first issuer of green 2
bonds – for which proceeds are earmarked for environmentally
friendly outcomes – back in 2007, and both governments and
0
corporates have flocked to the sustainable bond market since,
with green, social and sustainable bond issuance growing from
-2
just USD 6 billion in 2012 to over USD 700 billion last year. The
popularity of the market is unsurprising given that strong
demand for this debt often leads to lower borrowing costs for the -4 Green bonds trading at a
premium/lower spread
issuer – a dynamic known as the green premium, or “greenium” vs. traditional bonds
(EXHIBIT 3). Despite this benefit, the US government remains a -6
notable absentee from the green bond market. While officials
have so far been reluctant to discuss this idea publicly, the -8
emergence of a “Green Treasury” appears increasingly inevitable. Jan ’19 Jul ’19 Jan ’20 Jul ’20 Jan ’21 Jul ’21
Source: Barclays Research, J.P. Morgan Asset Management. Data shown is for a
Private capital encouraged to be part of Barclays Research custom universe of green and non-green investment-grade credits,
matched by issuer, currency, seniority and maturity. The universe consists of 105 pairs,
the solution 73 euro-denominated and 32 dollar-denominated, and 59 financials and 46 non-
An acceleration in government spending is one piece of the financials. Spread difference is measured using the option-adjusted spread. Data as of
17 September 2021.
puzzle, but we also expect to see further measures aimed at
incentivising private capital to be part of the solution.
Strengthened regulation that pressures large investors to tilt
portfolios towards climate-friendly strategies is one way to
achieve this outcome. Another route is for governments to
co-invest alongside the private sector in public-private
partnership models. This type of structure can often be used to
ensure that initiatives that would be too risky for the private
sector to invest in alone can still access the financing they
require.
J.P. MORGAN ASSE T MAN A G E ME N T 3ON TH E M I N D S O F I N VE STO R S
Corporate announcements to demonstrate the
leaders and laggards
Views from our Investment Desks
In the face of increasing investor scrutiny, the corporate sector ENERGY
is unlikely to wait for regulation to force its hand on tackling David Maccarrone, Equity Research Analyst, US Equity
climate change. The number of companies signing up to
and International Equity groups
science-based target commitments had already surpassed last
Parts of the energy sector began on the path to net zero
year’s record by June of this year, and November’s summit will
several years ago by embracing the goals of the Paris
intensify pressure on corporations that are not yet on board.
Agreement. But what effectively amounts to an Atlantic divide
Those that are able to align with government goals will benefit
exists among European and North American companies in the
from government spending and be rewarded with access to
level of commitment to net zero. Many European international
easier finance through capital markets. Central banks are likely
oil companies (IOCs) seek to transform themselves into
to incorporate green bonds or tilt their corporate asset
international energy companies, both in goal-setting and in
purchases towards companies that are making investments
action. Some of the more aggressive agendas include depleting,
consistent with net zero, meaning these companies will likely
divesting and avoiding hydrocarbon investments in an effort to
benefit from relatively lower borrowing costs. Additionally,
dramatically reduce Scope 1, 2 and 3 emissions, while investing
investors may find comfort in owning the bonds of these firms,
heavily in the energy transition across renewable electricity,
particularly in more stressful market environments, in the
carbon capture, storage and sequestration, and hydrogen. In
knowledge that the central bank is likely to be a willing buyer.
the US, a generally more conservative approach persists, with
In industries such as energy, logistics, airlines and farming that companies seeking to reduce greenhouse gas (GHG) intensity
are typically carbon intensive, there are also reasons to be but tending to avoid targeting absolute emissions reductions
optimistic. Those that adopt policies that help reach net zero and the Scope 3 emissions that represent approximately 85% of
will likely gain market share and be viewed as part of the an oil barrel’s GHG impact.
solution, rather than the problem. Whatever the industry under
Operating across a variety of economies that are in different
consideration, investors may find opportunities by identifying
stages of economic development and endowed with different
companies that are better prepared for the transition.
resources and climates, IOCs have an opportunity to tailor
solutions on the path to net zero. Many are capitalising on this
Carbon pricing likely to impact corporate profits opportunity. But others recognise that fossil fuels will remain a
Reaching agreement on a global carbon pricing system will be substantial component of the energy mix in almost all scenarios
one of the most challenging issues of the summit. We cover how looking to 2050. For the foreseeable future, natural depletion
such a system could work in our paper, “The implications of rates will exceed changes in demand, requiring continued
carbon pricing initiatives for investors.” While some regions, investment to support fossil fuel consumption.
such as Europe, have already made substantial progress, firms
will remain incentivised to outsource production to other By focusing on the lowest cost, lowest GHG footprint
regions with lower carbon costs until a global solution is development, many exploration and production companies
reached. Without a global solution, regions that decide to go it believe they are acting in shareholders’ best interests by
alone also risk imposing a competitive disadvantage on the avoiding investment diversification into energy transition areas
profit margins of their domestic corporations. The risk of dependent on emerging policies, where the economic
disagreements on carbon pricing spilling over into broader framework is not yet clear. Instead, lower rates of reinvestment
international relations is clear, with Europe perhaps needing to and higher returns of capital to shareholders have become the
introduce a carbon border tax if other countries decide not to norm. In the refining sector, an acceleration of retirements and
adopt a carbon pricing system. Without substantial progress, of retrofitting legacy fossil fuel assets into renewable diesel or
the path to net zero looks worryingly steep. sustainable aviation fuel facilities is one example of
transformation and decarbonisation. Midstream companies
evaluate opportunities to utilise existing assets and invest in
carbon capture, renewable natural gas (RNG) or low-carbon
hydrogen. Natural gas and liquefied natural gas (LNG) operators
focus on methane and GHG emission reductions and carbon-
neutral LNG cargoes.
4 G E T T I N G A H EA D OF C OP2 6 AND W HAT IT M EANS F O R INVES TORSON TH E M I N D S O F I N VE STO R S
With ESG-integrated investment processes likely to become the AIRLINES
plurality of institutional capital over time, different strategies
Aamina Kurji, Equity Research Analyst, International
will resonate with different investors. Capital allocation to oil
Equity group
and gas and energy transition investments varies tremendously,
and so will the rate of change with respect to the environmental Prior to the pandemic-related collapse in air traffic in 2020,
footprint. demand in the airline industry was growing strongly, more than
doubling in the 15 years to 2019. This was driven by factors
including the prevalence of low-cost carriers, making flying
INFRASTRUCTURE much more affordable, as well as a shift in consumer
Gilly Zimmer, Global Private Infrastructure preference from spending on things to spending on
Investments Group experiences. This increase in demand is clearly at odds with the
The energy transition to net zero has been a focus for many goal of reducing carbon emissions.
years within private infrastructure, given the potential and
Some countries have introduced new measures to try to reduce
actual direct impacts to opportunities and risks within the
demand, with Austria and France, for example, moving to ban
sector. The Covid-19 crisis has accelerated this focus, and
short-haul domestic flights where there are rail alternatives
consideration of carbon pricing schemes is another potential/
taking under three and under 2.5 hours, respectively. However,
actual accelerant. Facilitating the energy transition will continue
such measures barely dent the surface, with much more
to provide a wide variety of investment opportunities in the
collaboration needed among countries on international flights if
space. We expect utilities to continue to spend on green
air travel is to be reduced. Such efforts can be perceived as
infrastructure as they shift further away from traditional fossil
infringing on the free movement of people, though, and the
fuels towards renewables. In light of the intermittency of
ease of international travel also facilitates labour movement
renewable energy, this is likely to be complemented by less
and tourism – a significant source of income for many countries.
carbon-intensive and non-intermittent natural gas generation
Reaching agreement on international measures is therefore
and, to some extent, battery technologies as costs decline. We
challenging. If we are truly to see a shift, there needs to be
also anticipate that there will be necessary complementary
much heavier investment in public rail infrastructure to provide
investment in electricity transmission and utility electric grids,
viable travel alternatives.
because renewables are frequently located away from urban
centres. The cost for airlines to purchase carbon allowances under the
EU’s emissions trading systems has increased, with prices more
We believe stranded asset risk will remain in focus as the
than doubling vs. pre-pandemic levels. Technically, this is a cost
energy transition moves forwards (in part assisted by any
that airlines can pass on to consumers, but until now the pricing
potential carbon pricing scheme), with a particular lens on
has not been prohibitive enough to change consumer behaviour.
more carbon-intensive fossil fuels, though the timeframe is still
The measure also only hits EU traffic and not flights operating
unclear. Valuations are a further risk for investors. The recent
outside of Europe. This again highlights the need for more
increase in investor interest in green infrastructure has seen
harmonisation at a global level, with cooperation among
pricing of renewable energy assets rise globally, particularly in
countries.
more mature OECD markets. However, the supply of such
investments has not grown as quickly, given the length of new Airlines that have more flexibility around their hubs will be able
development cycles, which could impact forward-looking to more easily adjust their flight networks such that any routes
returns. Managing essential infrastructure assets in a that are prohibited can be substituted with others. This plays to
sustainable way by reducing their carbon footprint and the strength of low-cost carriers rather than the legacy airlines.
considering key stakeholder requirements is critical for risk- Given the increasing cost burden of all these measures, airlines
adjusted returns and can only be implemented with strong that have historically demonstrated their ability to manage their
governance at the board and management team levels. cost base better will likely fare better in the future too.
J.P. MORGAN ASSE T MAN A G E ME N T 5ON TH E M I N D S O F I N VE STO R S
EMERGING MARKET CORPORATE BONDS
Reuben Weislogel, Credit Research Analyst, Emerging Few emerging market corporates are currently directly
Market Debt discussing or setting out strategy on more complicated issues
It is difficult to draw general conclusions about the carbon such as the coordinated development of public infrastructure,
reduction approaches taken by emerging market corporates carbon pricing and carbon border adjustments. The dispersion
given the breadth of underlying diversification present in the of jurisdictions and lack of alignment across regions mean
asset class (~800 issuers in 60 countries). Currently, we find no international cooperation is not top of mind. However, the
unified approaches by country, region or sector. However, one direction of travel for overall corporate strategy, and specifically
trend that has gained significant traction in 2021 (specifically in for the more industrial-oriented sectors, is definitely towards
Latin America) is the issuance of sustainability-linked bonds disclosing more information about carbon emissions, creating
(SLBs). SLBs are bonds where coupon rates are tied to key targets around reducing those emissions (timeframe and
performance indicators such as water usage, carbon generation percentage reductions) and often aligning capital structures
and board composition. Should an issuer miss a target, the around these goals via SLBs. While we are still in the early
coupon rate may rise in response. SLB issuance has occurred stages of this transformation, and the decisions are more local
predominately in industrial sectors such as auto parts, cement, than international, the pace has accelerated over the last year,
metals, logistics and pulp & paper, but has increasingly with investors increasingly supportive of outcome-linked capital
broadened out to include sectors such as financials, retail and market solutions.
real estate, largely because issuers have recognised investor
demand for results-oriented bonds in the absence of
international cooperation around carbon reduction goals.
Historically, the primary option within the capital markets for
engendering changes in corporate strategy was green bonds – a
structure that generally lacks accountability and negative
ramifications for non-compliance. SLBs are not perfect, as they
commonly lack material ramification for target failure. However,
they do provide a more tangible framework for measuring
results and targeting carbon reductions. These features have
helped the market become more comfortable with this
structure over the last year.
Conclusion
Investors should be braced for a wave of new climate ambitions stemming from November’s COP26 summit. With the
conference serving to shine a spotlight on the enormous challenge presented by the need to reach net zero by 2050,
both the public and private sectors will be keen to stress the extent of their ambitions, with potentially market-moving
implications. For investors, there are risks and opportunities across sectors. Companies that prove they can be a part of
the solution will likely benefit from a lower cost of financing in the years to come, as both governments and the private
sector look to tilt their spending towards green initiatives. For businesses that are poorly prepared for the climate
transition – regardless of sector – life will only get tougher.
6 G E T T I N G A H EA D OF C OP2 6 AND W HAT IT M EANS F O R INVES T ORSMARKET INSIGHTS The Market Insights program provides comprehensive data and commentary on global markets without reference to products. Designed as a tool to help clients understand the markets and support investment decision-making, the program explores the implications of current economic data and changing market conditions. For the purposes of MiFID II, the JPM Market Insights and Portfolio Insights programs are marketing communications and are not in scope for any MiFID II / MiFIR requirements specifically related to investment research. Furthermore, the J.P. Morgan Asset Management Market Insights and Portfolio Insights programs, as non-independent research, have not been prepared in accordance with legal requirements designed to promote the independence of investment research, nor are they subject to any prohibition on dealing ahead of the dissemination of investment research. 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