Introduction

In the era of accelerating climate change, asset owners and managers are increasingly concerned about the potential long-tail risk of their investment portfolios in the face of heightened weather, geopolitical and regulatory uncertainty.

The damage in recent years has been piling up considerably and shows no sign of slowing in 2024. Hurricanes (Hurricane Helene - USA, September 2024 source), wildfires (wildfires in Canada - Summer 2023 source) and heatwaves (heatwaves across Europe & Asia - Summer 2024 source) have occurred across a variety of geographies causing tens, and in some cases hundreds, of billions of dollars in damage. The effects of these extreme weather and geopolitical events are vast and impacts can be seen across homes and infrastructure, food and factory production, power supplies and transport, alongside the environmental costs to land, sea and air ecosystems.

These are far from isolated events: in 2023, there were 37 cases of losses of US$1 billion or more for insurance, a 117% increase from 2014. This trend is predicted to continue, as Verisk, one of the leading insurance modeling firms, is projecting total annual insured losses from natural catastrophes of $151bn on average in the future (source). In the face of such massive disruptions to real estate portfolios, supply chains, power generation, and food security, how can asset managers prepare themselves against the inevitable wave of climate impact on their portfolios?

To manage these elements more effectively moving forward, we propose the “Climate Resilient Portfolio (CRP)” as a new conceptual framework that can help asset owners and managers consider the implications and consequences of climate change for their portfolios. Only by fully assessing the potential impact of climate disasters and understanding the growth of climate resilient infrastructure, can we seek to compose portfolios that are resilient, and defensible. At the same time, it's essential that investors and asset managers are able to look beyond downside protection, to actively devise strategies that create value in response to climate change. This framework can be a useful tool for asset managers to assess their existing portfolio and inform future investment decisions, helping secure an environmentally and financially sustainable future.

Definitions

A CRP is a strategic assembly of investments resilient to climate risks and positioned to thrive in a world increasingly shaped by climate change. This type of portfolio focuses on minimizing exposure to climate-related risks while maximizing opportunities associated with transitioning to a low-carbon economy and adapting to unavoidable climate impacts.

Breaking Down CRP

At its core, CRP serves as a guide to balancing climate risks and capitalizing on opportunities. This can be represented per the following breakdown:

Climate Resilient Portfolio Components
Risk Mitigation Protection	Solution Value Creation
Physical Risks	Climate Mitigation
Transitional Risk	Climate Adaptation

The first part of the CRP framework - Physical Risk + Transitional Risk - addresses the downsides and can be grouped as the “Risk Mitigation Protection” part of the equation.

• Physical risks include the direct damages from extreme weather events, such as hurricanes, wildfires, or heatwaves, which can wreak havoc on vulnerable industries like real estate, agriculture, or energy infrastructure.
• Transition risks encompass the broader systemic shifts in regulation, technology, and market demands as the world transitions to a low-carbon economy. These could manifest as stranded assets, such as investments in coal or oil, which become financially unviable due to regulatory restrictions or shifts in consumer preferences.

The second part of the CRP framework - Climate Mitigation + Climate Adaptation – reflects a focus on solutions and the opportunity for proactive value creation.

• Climate Mitigation solutions focus on investments that reduce carbon emissions, such as renewable energy, electric vehicles, and carbon capture technologies.
• Climate Adaptation solutions, on the other hand, target industries and assets that help societies cope with the inevitable consequences of climate change, such as drought-resistant crops, flood defenses, and disaster response infrastructure.

Extreme weather events and the systemic shift towards decarbonization are becoming difficult to ignore, and they can no longer be treated as peripheral issues. A robust CRP can help asset managers navigate these complexities by providing a framework to assess both the downside protection of avoiding stranded assets and the upside potential of investing in climate-resilient sectors.

Using the CRP lens will not only minimize exposure to climate-related risks but also position investments to thrive as the economy transitions toward sustainable solutions. Without this focus, existing asset managers may narrowly focus on risk avoidance without considering the opportunities for growth, risking stagnation and underperformance. In the short-term, investing in transitioning companies may come at a premium where newer technology and resources may run at a higher cost. A long-term view is critical.

Putting the Climate Resilient Portfolio into Practice

Let's consider how the concept of a CRP could be applied to three different types of funds: a real estate fund, an infrastructure fund, and a healthcare fund. By integrating the CRP framework, these funds can take steps to enhance their resilience to climate risks while positioning themselves for future growth opportunities tied to sustainability and adaptation.

1. Real Estate Fund

Initial Scenario (No CRP): A real estate fund is heavily invested in coastal properties, primarily luxury residential and commercial developments in regions highly exposed to rising sea levels and extreme weather events, such as Miami or the Gulf Coast. The fund managers recognize the increasing physical risks but only make marginal efforts to divest from the most at-risk properties. However, they fail to reinvest the proceeds in more climate-resilient assets, leaving much of the portfolio exposed to climate hazards.

Improved Scenario (Good CRP): Using a holistic CRP approach, the fund divests from vulnerable coastal properties and reinvests strategically in climate-resilient real estate. This includes properties in regions less prone to extreme weather, but also in buildings that are equipped with sustainable technologies such as solar power, water recycling systems, and energy-efficient designs. The fund allocates capital to developments in cities that are proactively building climate resilience through green urban planning, such as flood prevention measures and enhanced public transport infrastructure. Additionally, the fund invests in mixed-use developments that integrate sustainable agriculture and renewable energy systems, ensuring both resilience and growth as demand for green living spaces increases. This forward-looking strategy reduces the fund’s exposure to physical risks while positioning it to capture emerging trends in sustainable real estate.

2. Infrastructure Fund

Initial Scenario (No CRP): An infrastructure fund has significant investments in carbon-intensive projects, such as coal-powered plants and conventional power grids, which are increasingly vulnerable to both physical climate risks and transitional risks as the global economy shifts toward decarbonization. Although the fund has acknowledged these risks, its actions are mostly reactionary, with plans to slowly phase out coal investments. However, there are no concrete steps to reinvest in low-carbon infrastructure, and the portfolio remains largely dependent on fossil fuel-driven energy.

Improved Scenario (Good CRP): Adopting a CRP strategy, the fund proactively transitions its investments from carbon-intensive infrastructure to climate-resilient and sustainable projects. This includes renewable energy infrastructure such as solar farms, wind turbines, and battery storage facilities, which are positioned to thrive as the world accelerates its shift toward clean energy. In addition, the fund invests in resilient infrastructure such as water management systems, smart grids, and urban drainage systems designed to mitigate the impacts of floods and droughts. The portfolio also includes electric vehicle (EV) charging stations, which are poised to benefit from the growing adoption of electric vehicles. By diversifying into both climate mitigation and adaptation projects, the fund positions itself for both downside protection and value creation in sectors driving the decarbonized economy.

3. Healthcare Fund

Initial Scenario (No CRP): A healthcare fund is largely invested in traditional healthcare infrastructure such as hospitals and clinics, many of which are located in areas vulnerable to extreme heat, flooding, and other climate impacts. The fund is also invested in pharmaceutical companies that rely on global supply chains prone to disruption by climate-related events. Although the fund managers recognize the increasing risks posed by climate change, their response is limited to implementing disaster recovery plans for existing investments without pursuing climate-adaptive healthcare solutions.

Improved Scenario (Good CRP): Applying the CRP framework, the healthcare fund takes a more proactive and comprehensive approach. It begins by reallocating investments toward healthcare facilities designed with climate resilience in mind—hospitals with energy-efficient designs, resilient building materials, and on-site renewable energy systems. These facilities are strategically located in areas less vulnerable to extreme weather events. The fund also invests in telemedicine platforms and digital health solutions that can offer services remotely, reducing reliance on vulnerable physical infrastructure.

In addition to traditional healthcare investments, the fund allocates capital to innovative technologies that address the health impacts of climate change, such as heatwave preparedness, disease prevention technologies for climate-sensitive diseases (e.g., malaria and dengue), and water purification systems for regions affected by water scarcity. This diversified, forward-looking strategy positions the healthcare fund to be resilient to both physical risks and supply chain disruptions, while also capitalizing on emerging opportunities in climate adaptation and public health.

Measuring Climate Resiliency: A Conceptual Scorecard for Portfolios

We propose a Scorecard for Climate Resiliency Portfolios as a tool specifically for asset managers, owners and investors to evaluate the resilience of their portfolios in light of climate change. This scorecard provides a structured approach to assessing various dimensions of climate risk and opportunity. The goal is to build portfolios that not only support climate goals, but also have the ability to withstand and thrive under future climate scenarios. The scorecard consists of multiple assessments, each focusing on a specific aspect of climate resilience.

Assessments Under the Climate Resiliency Scorecard

1.    Carbon Intensity

• Definition: This assessment measures the carbon emissions associated with the portfolio's holdings. It indicates the portfolio's overall carbon footprint and alignment with global emission reduction targets.
• Metrics: Current metrics (GRI, SBTi) are largely sufficient, but further refinement may be needed to account for Scope 3 emissions across supply chains.

2.    Physical Risk Exposure

• Definition: This assessment evaluates the vulnerability of the portfolio's assets to physical risks associated with climate change, such as extreme weather events, sea-level rise, and temperature changes.
• Metrics: The Task Force on Climate-related Financial Disclosures (TCFD) offers a framework for assessing physical risks, focusing on asset exposure to various climate scenarios. Additional metrics may be required to determine the long-term viability of assets in regions with high physical risk and to incorporate forward-looking climate models.

3.    Stranded and Transition Risk Exposure

• Definition: This assessment gauges the susceptibility of assets to becoming stranded due to regulatory, market, or technological shifts associated with the transition to a low-carbon economy.
• Metrics: TCFD reports cover transition risks, offering insights into regulatory changes and market dynamics, but there is a need for more dynamic metrics.

4.    Mitigation Contribution

• Definition: This assessment measures the extent to which the portfolio's assets contribute to reducing greenhouse gas emissions, thereby supporting global climate mitigation efforts.
• Metrics: The SBTi is a primary source for assessing mitigation contributions, as it aligns corporate actions with climate science, but metrics are needed to capture indirect mitigation efforts, such as investments in green technologies or renewable energy projects.

5.    Adaptation Contribution

• Definition: This assessment evaluates how well the portfolio's assets support efforts to adapt to the impacts of climate change, such as investing in climate-resilient infrastructure or adaptive technologies.
• Metrics: More specific metrics are needed to measure contributions to adaptation at the asset level, including investments in climate-resilient infrastructure and technologies that enhance community resilience. The UN Sustainable Development Goals (SDGs) can also serve as a reference for measuring goals.

Looking to the Future: Opportunities in Funding the Climate Gap

The World Economic Forum has identified a US$5-6 trillion annual gap (source) in climate finance, representing a significant opportunity for investors. As asset managers design more portfolios to be "climate resilient," they will naturally become the preferred managers of institutional funds capital being deployed to meet the multi-trillion dollar funding gap.

Building climate-resilient portfolios presents a fundamental shift in thinking. As the global economy continues to evolve in response to climate change, investors who proactively integrate climate resilience into their portfolios will be well-positioned to achieve long-term growth and sustainability. By prioritizing assets that contribute to both climate change mitigation and adaptation, investors can both protect their portfolios from climate risks and capitalize on the significant opportunities in the transition to a more resilient and sustainable global economy.