2 Jun, 2023
S&P webinar: Sustainability push in real estate in early innings of a long game
By Pam Rosacia
➤ The real estate sector has made great strides in areas such as sustainability reports and ratings, green building certifications and net-zero commitments.
➤ Market forces are the main driver of sustainability in commercial real estate, while regulatory forces are expected to move the needle on adoption for industry laggards.
➤ The potential financial impacts of climate change are now quantifiable based on science-based data.
Sustainability has gained momentum in commercial real estate, yet the sector is still in the early innings of what is "going to be a long game," a panel of experts said during S&P Global Market Intelligence's May 30 webinar on the impact of sustainability on the sector.
Commercial real estate (CRE) companies are increasingly realizing the need to make their operations and portfolios more sustainable, especially in a market environment characterized by decreasing asset values, said Keven Lindemann, senior director of global real estate at Market Intelligence.
To help preserve asset values and gain access to capital in a challenging market environment, Lindemann said more public CRE companies are filing sustainability reports to communicate their environmental, social and governance impact and progress with investors. Filings were particularly high in 2021, as property valuations took a hit and investment slowed during the pandemic.
Sustainability benchmark
Data from Global Real Estate Sustainability Benchmark (GRESB), which rates the ESG performance of real estate and infrastructure portfolios, also shows that sustainability adoption in CRE has accelerated in recent years.
GRESB participation has increased each year since 2013. In 2022, 1,820 real estate portfolios spanning 15 sectors and about 150,000 buildings were submitted to the voluntary benchmark, said Dan Winters, senior director for strategic initiatives at GRESB.
Winters attributed the rise in participation to various factors, including compliance — as real estate investment trusts and funds face growing pressure from institutional investors and shareholders to adopt an ESG mindset — as well as risk management and business value.
In terms of reducing carbon emissions, Winters said companies with more than $100 trillion of assets have made commitments to achieve net-zero before or by midcentury. US institutional investors such as California State Teachers' Retirement System and New York State Common Retirement Fund have set aggressive targets to reach net-zero by 2045 and 2040, respectively.
Green building certification programs such as Leadership in Energy and Environmental Design in the US are becoming more widely adopted as investors begin to favor properties with good sustainability ratings, particularly when it comes to energy, water, waste and greenhouse gas emissions.
Notwithstanding the progress, more is needed to move the needle on adoption, Winters said.
Drivers and barriers
Market forces are primarily driving sustainability efforts in CRE, while regulation is expected to push industry laggards to adopt, according to the panelists.
Recognizing the possible threats of physical climate risks to their portfolios, institutional investors and pension funds are factoring material sustainability issues into their real estate investment decisions. Banks and insurers that have set net-zero carbon emissions targets are also looking at their loan books to determine which companies and markets they should back away from lending and supporting.
Capital markets are seeking greater transparency to inform investment decisions, which is where energy disclosure laws come in. One example is getting a building score through Energy Star, an energy-efficiency benchmark backed by the Environmental Protection Agency, and disclosing that to regulators, Winters said.
The transition to sustainability comes as the CRE sector grapples with more pressing challenges. Some of the issues facing the sector are reduced occupancy rates due to massive layoffs and hybrid work arrangements, particularly in the office sector, and higher interest rates and tighter lending standards that are making capital sourcing and property loan refinancing more challenging.
'Climate risk is financial risk'
There is a growing realization that "climate risk is financial risk," especially as catastrophic events caused by the warming climate are becoming more frequent and intense, said David Lane, director of business development and sustainability sales at Market Intelligence.
Insured catastrophic losses have topped $100 billion each year since 2016.
Science-based data is now available to quantify the potential financial impacts of climate change, which makes it actionable, Lane said.
"What's happening in the ground is people are dealing with these issues and understanding where their risks are enhanced. Risk management is the game on ESG," Winters said.
Climate risk is also starting to become part of valuations in CRE as many in the industry are becoming proactive with these assessments. "It will only grow more as more regulations become available," Lane said.