More and more investors eye real assets in net zero drive

Pension funds and institutional investors are increasingly embracing real assets that support the transition to low-carbon energy sources, it has emerged. 

This is primarily driven by a rising appetite for inflation-linked income.

In fact, two-thirds of investors plan to increase their allocation to real assets in the next two years, largely for sustainability reasons, according to London-based Daniel McHugh, chief investment officer at Aviva Investors Real Assets.

So does the net zero walk match the talk?

For many institutions, "this is evolution rather than revolution," McHugh explained, pointing out that 47 per cent of investors reported existing real asset allocations of up to 10 per cent.

In addition, investors intend to take a measured approach to increasing allocations: 46 per cent expect to lift their exposure by up to 10 per cent.

Real estate equity remains comfortably the most popular real assets strategy, he continued.

However, its use has edged slightly lower, McHugh and his team found, dropping from 31 per cent two years ago to 30 per cent today, where it is expected to stay in two years time.

By contrast, infrastructure equity allocations are on a gently upward trajectory, rising from 12 per cent two years ago to 13 per cent today.

Net zero increasingly a boardroom issue

Diversification and inflation remain the primary reasons for investing in real assets.

However, the use of real assets to make a positive net zero impact is climbing fast: from 17 per cent three years ago to 28 per cent today.

Having said that, there is a clear regional variation beneath this headline number: Around one-third of investors in Europe and Asia mainly employ real assets for positive ESG and net zero outcomes, compared to just ten per cent of North American investors.

A record 93 per cent of institutions now consider ESG a factor in investment decisions involving real assets. For 17 per cent, ESG and sustainability matters have become a critical factor, they said.

Does the net zero walk match the talk?

Interestingly, beliefs over the importance of sustainable investing are running slightly ahead of perceptions of the impact potential of sustainable real assets, Aviva Investors stressed.

Two-thirds of investors indicated that their organisation has a responsibility to invest sustainably, but only a third believe real asset investments can have a more direct net zero impact, versus listed equities and credit.

For institutions drawn to sustainable real assets, the key motivations turned out to be alignment with corporate values (60 per cent), risk management (58 per cent) and increasing evidence of improved financial performance from investing sustainably (54 per cent).

Net zero nervousness

While one-half of institutional investors polled have made a net zero commitment, just under one-quarter (24 percent) have not, and have no plans to do so.

Interestingly, this was the case for 39 per cent of all institutional investors across North America.

There is also an apparent lack of confidence in net zero actions and the role real assets can play toward meeting this ambitious goal, the survey found.

Over half (56 per cent) of institutions were unsure or lacking confidence in their ability to meet their long-term net zero and sustainability commitments from real asset investments.

Greenwashing and other risks

Meanwhile, greenwashing represented the biggest material risk to investment in sustainable real assets, Aviva Investors found, as 52 per cent of all investors polled confirmed it as a major risk.

High valuations (44 per cent) and difficulty in evidencing or measuring positive impacts (43 percent) completed the top three ranked risks.

"A backlash against ESG, a seriously misguided development in the face of climate change, biodiversity loss and social inequality, yes 2022 was quite the year,” said McHugh.

“It was in that context in late 2022 that we took the pulse of key investment decision makers,” he explained.

McHugh and his team polled more than 500 institutional investors across the UK, Europe, North America and Asia-Pacific region, with collectively $3.5 trillion of assets under management.

“As well as getting their insights on asset allocation, risks, opportunities and preferred routes to market, we took a deep dive into attitudes towards sustainable real assets, covering everything from net zero targets to whether investors see a trade-off between ESG impact and financial returns,” he stressed.

“The results throw up clear regional disparities,” McHugh concluded.