Climate Risks: Time to Factor the Most Fatal Risk in Your Portfolio

Part I: Understanding the Climate Change Risks

Introduction:

The IPCC (Intergovernmental Panel on Climate Change) predicts the average near-surface global temperature to exceed 1.5oC over pre-industrial levels (the period 1850-1900 is used as the pre-industrial baseline) by the year 2030 while other studies forecast it to climb above 3oC by 2100. (Note: The current average is approx. 1.15oC above pre-industrial level). The global greenhouse gas (GHG) emission in 2022 reported 37.5 Gt (Giga tonne) CO2e (equivalent) out of which C02 (Carbon dioxide) alone contributed approx. 75%, followed by Methane (approx. 17%), and Nitrous oxide (approx. 6%). The atmospheric concentration of CO2 level has already reached 421 PPM (Parts per million). In the past three decades, the sea levels have risen above 100 mm while sea surface temperature has increased by nearly 0.4oC. The year 2022 recorded the sixth warmest year and hottest ocean temperature ever; the ocean heat content as of December 2022 records 345 (±2) ZJ (Zetta Joules) since 1955 [one reason: El Niño effect]. Nonetheless, 2023 is projected to surpass the previous records. The list of such stats goes on with no definite ending, all indicating the most fatal risk ever – Climate change risks.

Climate Change Risks

Climate change is never a new phenomenon. Earth has been experiencing it even before human existence. But with humans and their activities (e.g. burning fossil fuels), the earth is scientifically termed to enter into the Anthropocene era. In fact, humans have warmed the globe about 1oC above the pre-industrial level. UN defines climate change as the long-term shifts in temperatures and weather patterns. We have already witnessed the trailer of such shifts, while the consequences posed by it can be divided into two – physical risks and transition risks. Physical risk is further branched into acute and chronic. Acute physical risks are extreme weather-related events like floods (including coastal), droughts, heatwaves, wildfires, storms, etc. Chronic physical risks are climate shifts such as rising temperatures, rising sea levels, ocean warming/acidification, melting glaciers, etc. Transition risks occur from moving towards the low carbon or net-zero emission economy. Every nation, industry, and individual has to bear the societal, political, technological, economic, and financial changes and burdens when trying to control climate change and escort the world to a decarbonized state.

Impacts and Severity of Climate Change Risks

June 2023 recorded the hottest June ever while July 4, 2023, marked the hottest day when the global average temperature peaked at 17.18oC. Aljazeera states at least 22 countries have reported temperatures of 50oC or more. Studies find that continuous exposure to wet-bulb temperatures of 35oC or more breaks down human body chemistry. At 1400 PPM of CO2 level, human cognitive ability is expected to drop by 50%. The frequency, duration, and intensity of heat waves have increased around the world, and IPCC projects more than 1.5 billion people to be exposed to extreme heat waves at least once every five years when the average surface temperature march towards 2oC. The frequency and cycle of rainfall have altered and have intensified drought, potentially killing 40% of bio-crusts by 2070 and pushing the world's desert areas north the 33%. Annually more than 70,000 wildfires are recorded around the world and we already witnessed devastating wildfires in Australia, US West, and the Arctic. UN predicts the world to witness a global wildfire crisis in the coming decades, with up to a 60% increase in wildfires by 2100. More than 99% of coral reefs would be destroyed at 2oC average surface global temperature. Increased ocean warming/acidification is likely to severely affect the fish and fishing business which provides 15% protein to more than half of the world’s population. With the continuing melting of glaciers, ice sheets (especially in Greenland and the Antarctic region), and thermal expansion, global sea levels are expected to rise by a foot by 2050, potentially magnifying the hurricanes, cyclones, typhoons, coastal floods, etc. by ten times the current frequency. This will heavily impact nearly a billion population of low-lying coastal communities and thousands of marine species. Nearly 600 coastal cities are expected to experience extreme inundation, while big cities like Jakarta (Indonesia), Houston (Texas – US), Dhaka (Bangladesh), Venice (Italy), Bangkok (Thailand), and many more are already sinking and risk of disappearance by end of the century. All of these climatic events could potentially end up the ‘hothouse scenario’, making the earth unfit to live and resulting the mass migration, food scarcity, hyper-inflation, breaking supply chain, extreme poverty, infrastructure damage, disputes and fights, loss of terrestrial and aquatic biodiversity and species, and irreversible impacts on the ecosystem.

Global Response to the Climate Change

Of all conventions and summits held around the world to combat climate change, the Paris Agreement in 2015 (which replaced the Kyoto Protocol) is the most significant one which brought the joint global commitment (195 countries) to limit the average surface global temperature rise to well below 2oC, with best efforts to limit it to 1.5oC above pre-industrial level by the year 2100 A.D. The Agreement set the target of “net-zero emission” by 2050, which is basically removing the amount of anthropogenic (human activities) greenhouse gas emission in the atmosphere. The Agreement requires every signatory nation to report their collective progress toward the target through a Nationally Determined Contributions (NDC) Report every five years to United Nations Framework Convention on Climate Change (UNFCCC). As such, the largest GHG emission countries through their legislation have formally committed to reduce the emissions significantly – China, the US, EU, and India cutting the emission by 65%, 50%, 55%, and 35% respectively by 2030 and more than 110 nations committed to carbon neutrality by 2050. In August 2022 the US passed the Inflation Reduction Act which included a $370 billion investment toward renewable energies and reducing carbon emissions over the next decade. Developed nations have pledged nearly a $100 billion toward ‘climate finance’, which aims to abet mitigation (lowering GHG emission) and adaptation (proactiveness towards the impacts) strategies to combat climate change risks.

Climate Clock

There is a “CLIMATE CLOCK” in New York that counts down the time left to limit Global Warming to 1.5o.C until we reach climate disaster. The countdown is based on the carbon budget. As of writing this article, we have 6 years 6 days 3 hours 30 minutes 15 seconds left to act.

(Contributed by Jeewan Pun. Pun is a former CFA Charter-holder and Certified FRM, currently serving as the Head of Research and Product Department at Garima Capital Limited.)