Singapore's GIC and other asset owners such as life insurers and pension funds are beginning to seriously consider the impact of environmental risks on real estate, an emerging shift that could lead to a pullback in some property assets and cause investors to hold physical assets for shorter periods.
Institutional investors, including the Singaporean sovereign wealth fund, have made multiple investments into real estate, and have begun assessing them through the lens of resiliency to climate change. To date, relatively few appear to be taking the risk into account.
“Thus far there has not been any increase in [investment] yield in [residential] locations that have been proved to be at risk of sea level rise, for example, or a combination of sea level rise plus storm surge plus wind, such as hurricanes or typhoons,” said Mary Ludgin, head of global research at Heitman, a property investment firm with $42.6 billion in assets under management.
The commercial real estate investible universe across the globe is $10.8 trillion, estimates property services firm JLL. Asia-Pacific contains about $3.4 trillion of this, or 31.5% of the global universe.
Set against this, the severity of climate-related disasters is on the rise. Most of the world’s major urban centres are based around coastlines or major rivers, which are vulnerable to the impact of global warming. According to Heitman, which quoted estimates from insurer Aon, 40 disaster events took place across the world in 2019, and they each resulted in at least $1 billion in near-term, direct losses across all economic sectors.
Worldwide losses from extreme weather events from 2010-2020, some on a smaller scale, totalled over $3 trillion.
The rise in incidences has increased insurance, to the point that property in some parts of the world have become uninsurable. For example, insurers no longer provide fire insurance for homes in many parts of California – a state now being racked by widespread summer wildfires on an annual basis.
It remains unclear what proportion of this real estate will be impacted by climate risk.
“When we began work in the realm of assessing risk five or six years ago, we were amazed by how difficult it was to get information about flood risk, for example, for our properties,” said Ludgin. Oftentimes, maps that show flood zones were out of date and were not reliable, she said.
IMPACTING INVESTOR PLANS
The breadth but uncertainty of climate change is having an impact on forward-thinking asset owners, as they consider how best to manage their alternative asset investments.
Singapore's GIC says it allocates between 9% to 13% of its portfolio to real estate. The sovereign wealth fund does not disclose its assets under management but says on its website its has well over $100 billion invested in over 40 countries.
It released in September a summary report from GIC Insights, its annual flagship event, in which it highlighted in its report a need "to effectively change the detrimental aspects of the current way of managing the global economy, and to draw the link between real economy issues and the investment world," adding that "reviewing how and what we measure as 'value' is crucial to spur greater change".
With the property market lacking specific frames of reference to risk, Ludgin told AsianInvestor that investors have become unwilling to invest in locations they believe to be too expensive relative to the climate-change risk.
For instance, the pricing for single-family homes in areas such as Florida, that have seen severe storms and more frequent flooding, has been impacted, she noted, without elaborating on how much prices have been affected.
The conclusion of a working paper published by the National Bureau of Economic Research (Naber) in October punned that the “most liquid” parts of Florida, defined as areas that are most likely to be underwater by 2100, have increasingly “illiquid housing markets”.
The paper said the data suggested that demand for at-risk coastal properties had fallen sharply since 2013, above and beyond any adjustment being made by lenders, insurers or government-sponsored enterprises such as Fannie Mae and Freddie Mac.
GIC’s concern over the impact of climate change led it to host a webinar in September that included participants such as former US vice-president Al Gore, BlackRock’s head of sustainability Debbie McCoy, and Jaap van Dam, Dutch pension fund PGGM’s principal director of investment strategy. Together, they discussed the impact of climate change on investments.
“While the growing focus on sustainability offers new investment opportunities, portfolio exposure to risks and disruption also need to be carefully managed,” GIC said in a publication following the webinar. It added that it is seeking seeking more sustainability-related opportunities. "This includes renewable energy assets, “green” buildings, and emerging technologies that support the low-carbon transition."
This discussion followed the sovereign wealth fund releasing a report in September, in which it explained that climate change affects its investments via two channels: financial materiality and investor flows. Financial materiality refers to the direct impact that climate risks can have on corporate profits via physical and transition risks. Physical risks refer to the direct damage to assets caused by storms, fires and other events, while transition risks relate to climate change policies and technologies that disrupt entire industries.
The report did not offer any definitive conclusions on the scale of the potential impact of climate change could be on GIC's portfolio, and especially its property holdings. This is not a great surprise; Ludgin said climate change risks have yet to be significantly priced into commercial real estate.
But this looks set to change.
“[I anticipate] a shift in sentiment such that [investment] yields rise by a meaningful amount, because there are lesser levels of investor interest,” she said.
GIC declined to be directly interviewed for this article.
COMMERCIAL REAL ESTATE
With climate risks proving difficult to measure but growing, the buy-and-hold mentality of many institutional investors around property portfolios may begin to change. Instead, they may start to hold assets over a shorter period.
“We have continued to invest in settings, for instance, where we are a lender and so we are not in a first lost position or where it is a short term investment of three to five years [the typical holding period for many asset owners], rather than we buy and hold an asset for 10 years on that premise that we would sell it to another long term investor,” said Ludgin. “Twenty years is a long time in the world of climate change.”
Heitman now has internal climate risk thresholds for its portfolios, which it incorporates into the property funds that it runs. Ludgin said the company looks at risk on two levels before proceeding with an investment – the risk at the property level and how would the asset impact the risk at the portfolio level.
“There may be an instance where we don't have sea-level rise exposure in the portfolio. We would be looking at an asset that has some exposure to that. But across the multi-asset portfolio, the risk may be negligible,” she said.
While identifying the specific risks that a city faces is an important task, it is equally critical to look at what the city has put in place to fund the improvements necessary to mitigate that risk, said Ludgin, adding that many cities have “grand plans” but they are slower to develop than to plan”.
GIC also noted in its report that it had become increasingly clear that sustainability issues like climate change had a material impact on investment returns. "However, the perfect translation of theory to action remains elusive," it added.
Despite the challenges, some believe that gap will be eventually bridged. Climate risk does not represent an “end game” for real estate assets, which are typically long-term investments, said Grace Chong, of-counsel for Hong Kong and Singapore at law firm Simmons & Simmons JWS. While property portfolios may appear to be “stuck in time”, she said, governments and companies are making efforts to mitigate environmental risks.
Article updated to clarify the title of the GIC Insights report, and that the asset owner has assets well in excess of $100 billion invested in over 40 countries.