Why the slow uptake on climate adaptation?
Amid scientific evidence of accelerating climate change and the massive costs of climate-related damage, why has the investment community been relatively slow to focus on adaptation? We believe there are two main reasons: reliance on pattern recognition and market short-termism.
Because humans tend to rely on pattern recognition for decision making, it can be difficult to acknowledge or accept paradigms that deviate from past experience. Familiar patterns or datasets give us mental comfort on which to base decisions and take risks. Climate change does not offer such comfort. According to Woodwell, we should not rely on historical data and patterns to project climate conditions. Their projections show that the climate will be more volatile over the next three decades than the last three. Heat will threaten the health of vulnerable populations. The probability of hurricanes, floods, and wildfires is rising. Seasonal precipitation will oscillate between dearth and deluge. And water scarcity will disrupt industries from agriculture to energy to semiconductors.
Short-termism, exacerbated by a misreading of future climate risk, is likely compounding inaction on adaptation. Investors are typically evaluated (and incentivized) on one-, three- and five-year performance. Many investors assume that the consequences of climate change — and, therefore, the need to adapt — are far in the future, and hence they need not be factored into current investment decisions.
In our view, the rising frequency and cost of climate events disprove that assumption: Climate change is both a near-term and a longer-term risk. While the market impacts of climate change may not appear material in diversified portfolios today, we believe the risks are rising. A tipping point that results in rapid, widespread asset repricing could expose higher risk levels and thus a greater need for climate hedges than otherwise expected.
Rising tide of spending on climate adaptation
The growing realization that lives and assets are increasingly exposed to climate risk is beginning to shift capital flows toward adaptation. We believe this trend will…