Originally published September 2021.
The case of the London and Paris office markets.
While the global framework of the Paris Accord is gradually being incorporated into national laws in Europe, incentives for property investors to take part in the reduction of greenhouse gas emissions are growing. Non-compliance with the new regulations represents a risk for investors to see their assets stranded either by law or directly by the market. Tools have been emerging these past few years to help investors grasp and anticipate the actions they will have to undertake to comply with the present and upcoming climate regulations, and thus limit the transition and reputational risks. Using the tool developed by the Carbon Risk Real Estate Monitor (CRREM), we translate the regulatory objectives into a financial risk premium that can be adjusted for each market and property type. The climate change-related transition risk results produced using this tool are quantified as a premium in basis points; similar to traditional real estate risks (ie, liquidity, capex, volatility, etc.). The objective is to enable investors to make the right investment decisions.
The EU adopted the 2010 Energy Performance of Buildings Directive (EPBD) aiming to achieve a highly energy efficient and decarbonised building stock by 2050, with indicative milestones set for 2030, 2040 and 2050. By analysing the current state of the building stock by property type and country, and by considering local characteristics that can play a role in the energy reduction and decarbonisation process (such as the profile of the energy grid), CRREM offers the possibility to assess both country-and building-type-specific GHG intensity and energy reduction pathways. For this transition risk premium, we focused on the energy reduction pathways. For Paris offices, for example, the energy reduction pathway aligned to limiting global warming to 2°C equals 44.5% between 2021 and 2040 according to the CREEM tool. Despite different starting points in energy consumption given in kWh/m²/year (214 kWh/m²/year for France against 220 in the UK), the reduction pathway for offices in the United Kingdom is similar. But does this mean that the transition costs, and consequently the transition risk premium, is to be the same for the two largest office markets in Europe, Paris and London? In this article, we will answer this question and quantify a bespoke transition risk premium reflective of the market.
