Investors need to look carefully at how this capital is allocated towards renewables in order to maxmise the impact, writes Octopus Group co-founder Chris Hulatt
The UK government has set out its net zero strategy and held the world to account at COP26 – and not a moment too soon. With the global need for action more pressing than ever, the strategy and conference have called for a complete rebuilding of the energy system, with renewable energy set to play a central role. Businesses are broadly supportive, and there is growing institutional investor interest in the sector. All of which is encouraging. But given the scale of the problem – and how high the stakes are – can we go even further?
We’re still a long way from securing a sustainable energy system that consistently meets our needs while we make the transition to net zero. To do this, we must both intensify our efforts and channel them more effectively. That will require going beyond core renewable investments, such as established solar or wind farms, where most institutional investors already have some exposure, and towards a wholesale energy transition. And as the energy transition spreads and accelerates, the capital requirement will be vast. To achieve the goals of the Paris Agreement, an estimated $12tr of investment in renewables is required worldwide.
At Octopus, we have long supported investment in renewables infrastructure to facilitate the energy transition. We believe that the delivery of new kinds of green infrastructure is where investors should look for both impact and returns.
Maximising impact
Increasingly, the global institutional investors we talk to are keen to find ways to support the energy transition. In a survey we conducted last year, some 80 per cent of global institutional investors were planning to increase their allocations to renewable infrastructure over the next three to five years. These investors recognise that there is a desire for this among their stakeholders, such as members of pension schemes. Government support is also helping here. For example, by cracking down on greenwashing and improving disclosure, the UK government’s new Greening Finance initiative may encourage additional capital into the renewables sector.
So there is a growing pool of capital and calls for investors, especially pension funds to act. What investors need to look at more closely, however, is how this capital is allocated – so that its impact is maximised and so that the economy is appropriately positioned for the years ahead.
It’s important to emphasise that investors have to take the lead here. They’re the ones who should be writing the cheques; the burden can’t rest on the shoulders of households, which are already struggling with rising energy costs.
Taking a holistic view
The UK government’s net zero strategy is multi-faceted. It covers the development of nuclear power, investment in electric vehicles and other green technology, and the decarbonisation of homes. And it takes in the whole of the energy cycle. To maximise both revenues and impact, investors also need to look at energy in the round – covering its generation, distribution and usage.
Let’s consider generation first. Increasing the generation of renewable energy will require the development of new infrastructure. This is a philosophy that has long driven Octopus’s approach to investing – as exemplified by our recent partnership with RES, which will build green hydrogen plants across the UK. In general, however, businesses and investors tend to default to exerting change from within, by owning and improving existing renewables assets. But while an established income-yielding asset – like a five-year-old solar farm – may attract inward investment and burnish the green credentials of the investor or owner, it is not increasing our capacity to generate clean electricity and thus tackle climate change. To truly move the dial, we need a concerted effort to build new and diverse infrastructure. And investors should welcome the opportunity to deploy capital into new assets that generate different types of revenue and match different liabilities. This has particularly attracted pension funds.
Efficient generation depends on efficient distribution. To achieve this, we must consider the location of each asset and better ways of capturing, storing and transporting energy. In many cases – as in the UK – small businesses have developed innovative solutions to these challenges, but they need investment to scale their solutions up. As an example of this in practice, earlier this year, Octopus acquired Eclipse Power, an independent distribution network operator, to help it scale and support the energy transition. Investors who focus on renewables and the energy transition can find diverse asset-allocation opportunities in dynamic private companies that are breaking new ground in transportation and storage.
A hard look at home
When it comes to energy usage, we need to take a hard look at our own consumption. For example, roughly 14 per cent of the UK’s carbon emissions comes from heating our homes, according to the Committee on Climate Change. Individuals and businesses have grown accustomed to 24/7 access to fairly cheap energy, with minimal motivation to ration. Along with energy-inefficient property, this is a serious barrier to achieving net zero. The UK government’s new strategy on heat and buildings shows good intentions, but greater collaboration with businesses and investors could speed up progress. We have recently announced that Octopus will play a role in this through a partnership with Homes England, the Government’s housing delivery agency, committing £175m towards building more high-quality, energy-efficient homes throughout England. Investors have a role to play in improving not just energy generation, but solutions for how consumers and businesses can reduce consumption.
Early-bird opportunities
In the early days of any new opportunity, investors tend to be hesitant. But their confidence always grows over time. For those who are prepared to act early, the opportunity is all the greater.
One thing that all investors should consider is how attractive renewables look in current market conditions. They offer appealing risk/return dynamics and a source of long-term income. And with the climate crisis increasingly urgent and governments setting out their support for the energy transition, there can be little doubt that renewables will be the major theme for the next 20 years.
