Transition to a low carbon economy powers growth

Awareness and expectations surrounding sustainability and the need to transition to a low carbon economic model are maturing globally, driving demand and creating new investment opportunities.

The landmark Paris Agreement of 2015 saw 196 parties agree to hold "the increase in the global average temperature to well below 2°C above pre-industrial levels" and pursue efforts "to limit the temperature increase to 1.5°C above pre-industrial levels." The agreement has been a driving force in the transition to a low carbon economy. Today, 140 nations (representing 88% of global emissions) and 65% of Forbes 2000 corporates have made net zero carbon commitments. 675 financial institutions have joined the Glasgow Financial Alliance for Net Zero. With interim targets in 2025-2030, the window for progress is closing.

Supporting investor demand, our annual EQuilibrium survey of institutional investors found 70% of respondents reported ESG factors influence investment decision making. A similar proportion reported going beyond regulatory requirements on the low carbon transition.

Given the scale of the investment needed to fund the transition, investors are finding ample opportunities across asset classes to mitigate risk and generate returns, while recognizing that capital alongside thoughtful government policy and technological innovation will be key for success.

Implications and opportunities for real assets

Real estate

Real estate accounts for around 39% of total global emissions¹. The magnitude of the economic and social transformation required as part of the low carbon transition presents opportunities and challenges for the asset class.

Supply/demand imbalance leads value creation for low carbon real estate

Real estate faces a chronic under supply of sustainable buildings. A recent study by JLL found that by 2030 there will be a 57% to 75% gap (depending on the region)² between supply of sustainable space and occupier demands. Evidence of green premiums are emerging, and the supply/demand imbalance should lead values to hold and increase. The divergence will only increase, with non-green buildings becoming harder to transact with best-in-class sustainable assets in prime areas commanding better rents and stickier tenants.

Transition unlocks new opportunities

The market associated with retrofitting existing buildings to improve performance and extend their lifespan will continue to thrive. A study by the Urban Green Council found that annual investment to meet Local Law 97³ in New York alone would need to increase 13-fold, presenting a retrofitting market opportunity of $20 billion. This brown-to-green transition has the potential to transform the sector.

The rise of government subsidies to support green retrofit provides an institutional-grade means of investing in the transition. For borrowers, low carbon ready assets can see reduced borrowing costs in excess of 10+ basis points (bps) as lenders understand green assets hold less risk while also looking to increase their share of sustainable financing products.

Challenges must be overcome for the transition

The challenges in transitioning to a low carbon economy cannot be underestimated. This is particularly true given the limited time to effect wholesale change in an industry that can be slow to react.

The cost of transition is considerable. McKinsey expects $1.7 trillion is required annually to 2050 to decarbonize buildings⁴. The question of how this will be funded is a complex one, but political responses and investment from the private sector will be essential.

Buildings, their technical systems and who pays for utilities are not always straightforward, giving rise to split incentives. Sectors such as retail, warehousing or industrial do not yet have significant occupier demand for low carbon space. This impacts the payback of improvements and does not incentivize rapid adoption. In these sectors there is limited landlord control with the majority of energy consumption by tenants. Tenant engagement, including through green leasing⁵, is essential.

Overall, the real estate sector has the capabilities to transition to a low carbon model, spurred on by emerging technology and certainty offered by clearer government policy. However, the high levels of capital expenditure required means that there is a risk of stranded assets.

Infrastructure

The transition to a low carbon economy that supports economic growth is being driven by ambitious global goals and rapidly increasing demands for power.

Climate goals top of mind in driving demand for renewables, decarbonization

To meet these demands, the International Energy Agency expects that investment in renewables must double to £1.2 trillion per year by 2030.

At COP28, nearly 200 nations agreed to triple renewable energy capacity and double energy efficiency by 2030 to meet international net zero goals as outlined in the Paris Agreement.⁶

The EU revised Renewable Energy Directive, adopted in 2023, raises the EU's binding renewable energy target for 2030 to a minimum of 42.5%. As the energy sector is responsible for more than 75% of the EU's greenhouse gas emissions, increasing the share of renewable energy across different sectors of the economy is key to reducing net greenhouse gas emissions by at least 55% by 2030, and to becoming a climate-neutral continent by 2050.⁷

These commitments reflect the urgent need to reduce carbon emissions, presenting new opportunities to deploy capital into the sector. Over the past decade, the growth of renewable energy, such as wind and solar, has consistently outperformed expectations while the cost to deploy renewables has decreased considerably and this growth story is only getting stronger.⁸

Energy demand continues to increase supported by new technology adoption

The global demand for power is expected to surge as economies increase their dependency on digitalization and power-intensive AI applications.

A study from Goldman Sachs estimated that in the U.S., power demand will accelerate to a 2.7% 5-year compound annual growth rate by 2030 versus 0% for the past 10 years. Forward-looking investment strategies that are poised to tap into this growing demand will be well-placed to capitalize on increased infrastructure needs, while also honoring sustainability commitments.

A holistic view of the combined environmental and social impact of increased energy demands is essential for crafting resilient infrastructure portfolios. For example, lower energy solutions for data center equipment cooling require larger quantities of water. This would prove destabilizing for the local community and ecology in areas of water scarcity. Nuveen Infrastructure assesses factors such as power use effectiveness (PUE), access to renewable energy sources, community considerations and water stress to capture these complexities and trade-offs when assessing data center investments.

Electricity demand creates an asset class: Energy-as-a-Service (EaaS)

Given the anticipated growth in electricity demand, it is possible that power prices will rise. Correspondingly, energy-as-a-service, which leverages energy efficiency and demand response will become a prominent investment theme. In the EaaS business model, customers enter into long-term service agreements with the EaaS provider who covers the upfront installation and equipment upgrades (i.e., HVAC, lighting, and refrigeration).

The provider guarantees the customer a specific percentage reduction in their power bill, and in turn is entitled to all additional savings. The steady stream of cash flows, long duration contracts, well-understood technology, and diversification of customer base de-risks this lending opportunity. EaaS providers need flexible financing to capitalize projects on a rolling basis as customers are acquired. The current annual market size for energy efficiency is $30 billion.

Natural capital

Institutional investors have several mechanisms to align portfolios with emissions reduction targets. Beyond simply reducing exposure to carbon-intensive sectors, investors may increase allocations to carbon efficient or low carbon investments and invest in climate solutions that remove CO₂ from the atmosphere. Allocations to natural capital can support these goals in several important ways.

Efficiently decarbonizing investment portfolios

As an asset class, natural capital, such as timberland and farmland, has the lowest average carbon intensity - or net CO₂ emissions per dollar invested - among both alternative and traditional asset classes.

A low or even net-negative carbon profile can balance more emissions-intensive sectors within an institutional portfolio, helping to achieve climate targets efficiently without having to sacrifice returns unnecessarily. Over $9 trillion assets under management, represented by the Net-Zero Asset Owner Alliance, is committed to transitioning investment portfolios to net zero greenhouse gas emissions by 2050.

While the optimal decarbonization pathway will be unique to each asset owner, we believe natural capital's low carbon intensity and risk-return profile can be an efficient strategy to help achieve this goal.

Investing in nature-based climate solutions

As whole economies and supply chains decarbonize, certified sustainable timberland and farmland assets will be well positioned to benefit from growing demand for carbon-efficient food, fiber and timber.

In many geographies, growing markets and policy frameworks are supporting pricing for these products, incentivizing emissions reductions from land management practices and throughout the supply chains. For example, in the U.S., California's Low-Carbon Fuel Standard has been a major demand driver for renewable diesel, which reduces carbon intensity by 65% on average when compared to petroleum diesel and provides grain and oilseed farmers with a new end-use market for crops.

In addition to supporting supply chain decarbonization, investing in natural capital - trees and soil - represents a direct investment in a carbon removal technology offering near-term potential to generate credits that represent real, measurable climate benefits. Carbon credits can be generated through changes in land management that reduce greenhouse gas emissions or sequester CO2 from the atmosphere. To quantify the climate benefits of these changes, there are established crediting standards and mechanisms for monitoring, reporting and independent verification. The global market for carbon credits could grow from about $2B currently to $100B per year by 2030 by some estimates.¹⁰

For land-based investors, exposure to carbon credit markets has the potential to improve financial returns compared to management for commercial timber or agricultural crops alone, enhance portfolio-level diversification benefits, and contribute positively to climate targets.

A low carbon economy will bring growth opportunities

The transition to a low carbon economy is well underway. As carbon emission reduction targets come into focus ahead of 2030 and 2050 deadlines, governments, companies and investors are seeking to accelerate the transition to low carbon across asset classes.

With this acceleration, investors will see shifting demands across real estate, infrastructure and natural capital, driving growth in these areas as greener buildings, renewable energy and positive carbon storage practices become increasingly commonplace.

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