Jon Lovell is a ULI thought leader on the intersection of climate change, sustainability, and real estate. As chair of ULI United Kingdom’s Sustainability Council and cofounder of consulting and training firm Hillbreak, Lovell is at the forefront of the industry’s efforts to address the significant risks to real estate and other financial assets posed by climate change, while seizing opportunities to enhance returns. Lovell, along with Hillbreak colleague Miles Keeping, recently authored L’Accord de Paris: A Potential Game Changer for the Global Real Estate Industry, a ULI paper that summarizes the key issues for real estate decision makers in the aftermath of the Paris Agreement. Negotiated by 195 and ratified by 100 heads of state, the agreement strengthens the international response to climate change through the ambitious goal of holding average global temperatures to well below two degrees Celsius compared with pre-industrial levels. Lovell spoke with ULI Connecton the imperatives of improving the resilience and performance of real estate assets in the post-Paris era.
“Asset owners and developers are seeing pressure from both investors and occupiers for assets that both mitigate climate impacts and adapt to them.... The overall trend is very clear: funds and property companies need to adapt in order to remain relevant as magnets for capital.” - Jon Lovell
ULI Connect: Let’s discuss the risks your paper identifies as [of] paramount [importance] for the real estate industry to correctly assess and respond to. How does the real estate industry stand to lose if it ignores the implications of the Paris Agreement?
Jon Lovell: First, there are changing market expectations from both ends of the demand spectrum. Asset owners and developers are seeing pressure from both investors and occupiers for assets that both mitigate climate impacts and adapt to them. There is no doubt in my mind that we have seen both catalyzed by Paris, but it is strengthened investor engagement that has made the greatest impression in my view. The overall trend is very clear: funds and property companies need to adapt in order to remain relevant as magnets for capital.
The second type of risk relates to policy. Reconciling the gaps between current emissions trends, existing policy commitments, and the levels of emissions reduction required to realize the COP21 (2015 United Nations Climate Change Conference) goals means that regulations will become tighter. We’ll see higher mandatory standards for new and existing buildings, more statutory disclosure on climate risk and carbon impact, and greater use of carbon pricing mechanisms. The obsolescence risks for substandard assets in this context are clear.
Thirdly, there are the effects of climate change itself, which would be catastrophic for the global economy and financial markets if temperatures rose by four degrees or more, which is the likely scenario given current trends. Even if temperatures rise by two degrees, we will likely see extreme weather events such as storms surges, catastrophic flooding, and prolonged droughts become more frequent and intensify. Major property and financial losses will result. It is therefore in the best interests of the real estate industry to see the goals of the Paris Agreement realized, and collectively we have a major role to play in making that happen. Portfolio- and asset-level resilience in the face of those threats will therefore be key.
ULI Connect: Now that we have identified the risks to real estate, what are some of the opportunities for repositioning assets and enhancing value across the real estate cycle post-Paris?
Lovell: In terms of staying competitive in the market, there are implications at the corporate, portfolio, and asset levels. From an asset point of view, we’re seeing the emergence of a value differential between assets that perform well from an energy and carbon efficiency perspective and those that don’t. Some call this a “green premium,” but more accurately, it can be considered a discounting effect in certain markets for properties that are not competitive in terms of their energy and carbon performance. We’re also seeing a convincing level of correlation between the financial performance of portfolios and the maturity of the approach to climate and wider sustainability risks from those managing them. Partly as a result, investors are starting to talk with their feet by withdrawing from where they deem climate risk management to be inadequate.
When you look at the implications for investment products, it depends on whether you are investing in and holding properties for the long term or whether you’re more interested in a shorter-term, value-add play. At the value-add end of the spectrum, it’s about harnessing the energy and carbon performance potential of an asset to support its repositioning. For core products, the issue is very much about safeguarding the quality and security of income. Increasingly, if you don’t have a property that performs well from an energy and carbon perspective, it won’t be seen by the market as a quality product.
There are also major opportunities for the supply chain that services the real estate industry. We’re seeing all sorts of innovation taking place in the pursuit of zero-carbon goals and better environments for building occupiers. There’s a growing push toward net-zero-energy buildings, and there’s some really exciting things happening with the interplay of different technologies to create smart, connected solutions via the “internet of things.” Herein lies the opportunity to not simply improve the energy efficiency and operational costs of occupancy, but to actually enhance the productivity of people working in these spaces.
ULI Connect: Your paper describes climate change’s impact on capital markets—how capital may begin to retreat from assets it perceives as vulnerable to climate change. Can you say more about this?
Lovell: We see a particular response from the investment community in directing capital away from assets considered to be risky from a stranded asset point of view. This has been particularly apparent in divestment from sectors and companies that are intensive in their use of fossil fuels. That clearly presents a reallocation opportunity for real estate, and we’re seeing real estate funds looking to position themselves overtly to create diversification opportunities for equities clients.
CalPERS, the California Public Employees’ Retirement System, which manages $300 billion in assets, has made strong statements and movements on the back of the Paris Agreement. The same can be said of other institutional investors such as APG, AXA, and PGGM, the latter of which has committed to 50 percent decarbonization of its investment portfolio by 2020, which is huge. That said, we’d argue that many real estate organizations are not moving quickly enough to capture this opportunity. Taking account of climate risk in strategic asset allocations remains the exception rather than the norm.
ULI Connect: In closing, could you say a few words about yourself and how you became interested in exploring the themes of sustainability, real estate, and climate change?
Lovell: I’ve always been interested in challenging conventional wisdom and bringing new forms of objectivity to the market. The real estate sector has long stood out to me as one in which a lot of ground needs to be made up to address systemic failings. That’s why Miles and I set up Hillbreak: to expedite the transition to a sustainable policy, business, and investment environment by bringing intelligence, challenge, and inspiration to our clients and the wider industry.
I’ve been involved with ULI for about ten years and through it have engaged across the world with some of the most impressive people the industry has to offer. ULI has always provided an excellent platform for the exploration of new ideas and concepts. Looking ahead, I’d like to see ULI play a transformational role in breaking down the barriers to a genuinely climate positive industry.
