Read this article to understand:
- How global megatrends are reshaping the investment landscape
- The investable opportunities related to climate change, natural resource scarcity and social change
- How the megatrends connect
What happens to a company’s balance sheet when floods or wildfires lay waste to its assets? How does the fast-food industry respond when consumers turn up their noses at red meat? Why do firms that treat their staff well perform better than those that don’t?
Investors looking for answers to these sorts of questions need to pay close attention to megatrends – the seismic and interconnected changes occurring across economies and societies.
The megatrends encompass major global themes, from technological progress to shifting geopolitical power dynamics. But among the most transformational megatrends are those relating to sustainability: the climate crisis, resource scarcity and demographic and social changes, such as rising inequality.
Driven by regulation, technology, consumer behaviour and environmental conditions, sustainability megatrends affect every company in every sector. Firms that can transition their business models in line with these forces, or offer innovative solutions amid the disruption, should be well-positioned; those that cannot risk obsolescence, if not oblivion.
The future is already here
While they will play out across generations, sustainability megatrends are already bringing material consequences for companies and investors. Mining firms are benefiting from rising demand for copper and other metals needed to manufacture electric vehicles (EVs). Drones are being deployed to make agriculture more efficient and kinder to nature, generating lucrative new revenue streams for tech manufacturers.
Meanwhile, companies on the wrong side of the megatrends are encountering significant risks. Take the operators of the Dakota Access Pipeline in the American Midwest, who failed to consider how changing social attitudes would affect the project. When the pipeline encroached on indigenous rights and sparked an international outcry, the operating company and banks that financed it were hit with reputational damage and billions of dollars in costs.1
In this article, we explore the sustainability megatrends and the connections between them; assess the financial mechanisms across economic sectors; and pick out thematic risks and opportunities for investors.
Climate change
There is a broad international consensus climate change is a clear-and-present danger to all living things. But despite rousing political rhetoric and laudable net-zero ambitions, countries and companies continue to pump carbon into the atmosphere and global temperatures tick ever higher.
Every company will have to mitigate its emissions and every company will have to adapt to the consequences of a warming planet
Without decisive action, the world looks likely to miss the Paris Agreement target of limiting temperature increases to well below two degrees Celsius above pre-industrial levels (and ideally 1.5 degrees). The physical impacts of climate change – from floods to wildfires and searing heatwaves – are already affecting companies and will only become more severe, as set out in the Intergovernmental Panel on Climate Change’s (IPCC) sixth assessment report, published in March 2023.2
But climate change will have much wider implications. New regulation is damaging the revenues of carbon-intensive businesses. Improvements in technology and increasing investor focus on environmental, social and governance (ESG) factors are influencing the corporate landscape in myriad ways.
“There is still a widespread view that tackling climate change is all about renewable energy: solar panels and wind turbines. But it will affect every actor in the economy,” says Rick Stathers, climate pillar lead at Aviva Investors. “To prevent the worst climate outcomes and meet the Paris targets, every company will have to mitigate its emissions and every company will have to adapt to the consequences of a warming planet.”
Climate mitigation
Start with mitigation – the effort to reduce or eliminate greenhouse-gas emissions. The key driver here is policy: governments are likely to expand existing carbon-pricing programmes and introduce other regulatory measures to meet climate targets.
The situation is urgent: the longer it takes to reduce emissions to an acceptable level, the greater the risk of a hurried and chaotic transition and the likelier it is that the world will hit tipping points – thresholds that, once breached, lead to abrupt, dramatic and irreversible climate outcomes.
According to the International Energy Agency, only 23 per cent of global emissions were covered by carbon-pricing schemes as of February 2023.3 The failure to price carbon properly gives fossil-fuel companies an effective subsidy, allowing them to pollute the atmosphere without paying for the damage they cause. When you add in explicit subsidies –provided by governments to keep consumer costs low – fossil-fuel companies benefit to the tune of trillions of dollars every year. The International Monetary Fund forecasts total subsidies could reach as much as 7.5 per cent of global GDP by 2025.4
This suggests explicit subsidies will need to be withdrawn and carbon prices increased significantly to limit a further rise in temperatures (see Figure 1). Other policies to curb hydrocarbon use – including a cap on fossil-fuel extraction – could come into play, along with incentives to encourage consumers to change their behaviour and make climate-friendly choices.
Figure 1: Scenarios for climate policy, emissions and temperatures
CO2 emissions by scenario
How carbon prices may develop under different climate scenarios
Note: Full explanation of these scenarios is provided in the references.
Source: Network for Greening the Financial System, September 20225
Revenue streams among carbon-intensive businesses can be wiped out at the stroke of a legislator’s pen. Restrictions on the most-polluting activities are in the process of being enacted, threatening industries such as air travel and aviation freight: in December 2022, the French government moved to outlaw short-haul flights where low-carbon alternatives such as rail routes exist.6
As well as wielding the stick against laggards, politicians are increasingly offering carrots to companies leading the way on climate mitigation. Take the US government’s Inflation Reduction Act, an ambitious package that includes $370 billion in subsidies for green energy. Among the beneficiaries will be specialists in solar and wind power – which are becoming more cost competitive (see Figure 2) – but also providers of parts and services across infrastructure supply chains.
Politicians are increasingly offering carrots to companies leading the way on climate mitigation
The European Union is preparing its own Net-Zero Industry Act, which could create incentives for clean technology on the other side of the Atlantic.7 As industries switch from fossil fuels to electric power sources, companies working to upgrade energy grids should see new opportunities.8
A mixture of fiscal sweeteners, falling costs and evolving consumer preferences is boosting the fortunes of several sectors, including EVs. As transport decarbonises, the internal combustion engine will become a thing of the past. Manufacturers that cannot pivot to EVs will be burdened with stranded assets.
But the effects of these developments are radiating far beyond “green” sectors most obviously aligned to the climate transition. Take mining companies, which are seeing surging demand for the metals required for the technologies that enable electrification, such as copper and lithium.
These firms will, in turn, need to mitigate their own substantial emissions by switching from predominantly diesel-powered machinery. Industrial-equipment manufacturers that specialise in electric-powered technology are likely to be among the winners, but economic advantages should accrue to the sector as a whole. Electric machinery is both cheaper to run – lessening the need for costly ventilation systems to protect workers from particulate fumes – and carries weightier loads, offering productivity improvements.9
Figure 2: Cost of electricity by power source ($/mwh)
Source: Aviva Investors, BloombergNEF. Data as of January 2022
Climate adaptation
While efforts to mitigate emissions are underway, climate change is already happening. A certain amount of future warming is already “baked in” due to the way greenhouse gases are broken down in the atmosphere. Adaptation is imperative.
Even under the most ambitious mitigation scenarios, the negative effects of climate change will become more pronounced over the coming years, especially in the Global South. Despite this, only a fraction of the damage caused by storms, floods and wildfires is currently insured (see Figure 3).
While a world with more-frequent and costlier disasters might seem bad for the insurance industry, the increased likelihood of extreme weather events will raise the level of risk in insurance contracts and could allow some companies to benefit from higher pricing. German-based reinsurer Munich Re, which has expertise in analysing the financial consequences of climate events, is one example.
The increasing frequency of heatwaves and droughts means water security has become another crucial investment theme
The increasing frequency of heatwaves and droughts means water security has become another crucial investment theme. Research from the Organisation for Economic Cooperation and Development (OECD) estimates every EU member state will need to increase its expenditure on water supply and sanitation by at least 25 per cent by 2030, as a warming climate and increasing urbanisation combine to put more pressure on ageing infrastructure.10
Given the scale of the investment needed, there is expected to be increasing scope for private capital to play a role in plugging the funding gap. As climate change contributes to greater water scarcity, water utilities and companies working on desalination or water re-use technologies could be well positioned.
While droughts hit in some areas, others will be inundated as sea levels rise and flooding events become more frequent. New building methods and infrastructure are required to protect low-lying towns and cities. Design and engineering companies with expertise in adaptation, along with firms developing resilient and sustainable building materials, will be able to offer solutions.
The world will also need to adjust in other, more surprising ways. Health issues triggered by warmer weather and poorer air quality – such as hay fever and asthma – are expected to become more prevalent, stoking demand for effective and accessible treatments. Evidence suggests warming temperatures may prolong the breeding seasons for certain pest species, damaging crops but boosting growth in the $22 billion global pest-control market.11
Figure 3: Total climate-related damages and those covered by insurance, 2000-2022
Source: Environmental Research, June 28, 202212
Investable themes related to climate change
Climate mitigation
- Decarbonisation of transport:
- Opportunities: EVs, batteries, fuel cells, rail, traffic software, electrification of flight
- Decarbonisation of energy:
- Opportunities: Electricity infrastructure and value chains, nuclear, hydrogen, mining for rare earths
- Improvements in efficiency across industry and the built environment:
- Opportunities: Industrial ICT, energy management in buildings
Climate adaptation
- Need for greater water security
- Opportunities: Utilities, desalination, water re-use
- Transition to climate-friendly agriculture
- Opportunities: Biotech, chemicals to improve yields
- Rising sea levels
- Opportunities: Aquaculture, sea defences, infrastructure construction
- Rising temperatures
- Opportunities: Treatments for water-related diseases and illnesses related to warmer weather; pest control as rising temperatures prolong breeding seasons
- Increased frequency of extreme weather events
- Opportunities: Insurance, reinsurance, microinsurance
Resource scarcity
While the threats of climate change are relatively well understood, less attention has been paid to specific risks associated with the human destruction of nature.
Since 1970, there has been an average fall in global animal populations of 69 per cent, mostly due to human-driven habitat loss, pollution and global warming.13 This has devastated biodiversity: the delicate balance and complex variety of life on Earth. It has also brought serious risks to human civilisation.
Sir Partha Dasgupta’s landmark Economics of Biodiversity report (2021) outlined how biodiversity underpins natural capital. Conventional economics does not recognise natural capital in its models, which means humans have been exploiting renewable and non-renewable natural assets – whether they be fossil fuels, redwood trees, sperm whales or pasturelands – without accounting for their future availability, or the impact on other economic assets and services. Natural capital has declined by an astonishing 40 per cent per head since 1992.14
The destruction of nature has not been seen as an existential crisis in quite the same way as climate change
Governments are belatedly moving to protect nature. At the 2022 UN Conference of Parties to the Convention on Biological Diversity (COP15), major economies announced a “30-by-30” pledge to safeguard 30 per cent of land and oceans by 2030, along with a promise to increase funding for biodiversity issues. As momentum builds, the World Economic Forum (WEF) estimates the transition to a “nature-positive” economy could generate $10 trillion of business opportunities over the next decade.15
“The destruction of nature has not been seen as an existential crisis in quite the same way as climate change, despite its material implications for companies and investors,” explains Eugenie Mathieu, Earth pillar lead at Aviva Investors. “There have also been few economic incentives for companies to curb practices that are harmful to nature. Unfortunately, nature has been free to exploit.
“But that is changing. As new regulation is enforced and consumers become more aware of threats to nature, companies whose products help mitigate these impacts and create solutions should see growth,” Mathieu adds.
Figure 4: The sixth great extinction (percentage of species threatened by extinction)
Source: International Union for Conservation of Nature’s Red List of Threatened Species, 202216
Sustainable land
Start with land use. Many industries share the blame for unsustainable practices in this area – textiles manufacturers grow pesticide-intensive crops and degrade the soil, while chemical companies have allowed their products to leach into watercourses.
But farming, particularly to produce meat, is the principal culprit. Global agriculture is responsible for 80 per cent of worldwide deforestation, 29 per cent of greenhouse-gas emissions and up to 70 per cent of freshwater use.17 It is also enormously wasteful; around one third of food produced is lost, either through supply-chain issues or because it is thrown away – this at a time when millions of people around the world are still going hungry.
Inflicting further damage on nature through intensive farming will limit countries’ ability to produce the food required by growing populations. Governments are under pressure to increase supply while curbing the worst climate and biodiversity impacts of agriculture. New regulation is in the offing: the EU’s “Farm to Fork Strategy” targets reductions in the use of pesticides (by 50 per cent), fertiliser (20 per cent) and agricultural antibiotics (50 per cent) by 2030.18
As these trends play out, companies whose products contribute to sustainable land use should benefit. WEF research suggests precision agriculture methods, which are less damaging to nature, could also improve productivity, boosting large-scale farm yields by 40 per cent over the next two decades.19
The knock-on effects are being felt across sectors. Companies such as industrial technology firm Trimble are seeing increasing demand for their products, from GPS sensors that enable tractors to deploy fertiliser more accurately, to drones that can swoop over crops, collecting data, sowing seeds and even spotting the early signs of leaf blight.20 Producers of natural fertilisers and biopesticides are also projected to see significant growth.21
Firms that can demonstrably limit their impact on nature already benefit from government subsidies and are more likely to escape punitive taxes and regulation in future. At the same time, consumers are selecting foods produced without harming the natural world, fuelling demand for plant-based alternatives to meat and dairy, as well as organic produce.22
Studies suggest alternative proteins could capture ten per cent of the global meat industry by 2030 – up from less than one per cent in 2017 – to create a market worth $85 billion (see Figure 5).23 One report projects the plant-based protein industry will achieve a 16 per cent compound annual growth rate through 2027, with most growth coming from the US and Western Europe.24
Figure 5: Projected growth in alternative proteins
Note: H = High growth scenario. L = low growth scenario. Remainder are base case scenarios.
Source: FAIRR, October 25, 202225
Sustainable oceans
Greater awareness of damaging land use and extinction of terrestrial species is matched by public uproar at the effects of human activity on the oceans. Blockbuster documentaries such as Netflix’s Seaspiracy and the BBC’s Blue Planet and Wild Isles have highlighted the consequences of ocean pollution, from depleted fish stocks to the vast reefs of discarded plastic bobbing across the open waves.
Global seafood consumption is expected to be 18 per cent higher in 2030 than in 2018 – and tackling the industry’s most damaging methods is a key priority. A recent United Nations report found 35.4 per cent of fish stocks were harvested unsustainably as of 2019 and some species are already becoming scarce.26 In 2022, Alaska cancelled its snow crab season – which supported an industry worth an estimated $160 million annually – as species numbers plunged by 80 per cent.27
China, Japan and the EU recently banned certain fishing practices and tighter regulation is driving sustainable aquaculture. There have been new innovations in fish feed – based on insect, algal and even methane-derived sources rather than other fish – and vaccines for diseases among farmed seafood species.
We are also seeing a revolution in land-based aquaculture techniques. These could benefit both marine ecosystems and also the consumer, as they mitigate some of the risks of farming fish in open waters, such as the damage caused by antibiotics, fish excrement, escaping fish and sea lice. By producing fish much closer to consumer end markets, land-based methods can also reduce the carbon footprint generated by the industry’s current reliance on air-freight logistics.28
Tackling the causes of ocean pollution is another area of focus for politicians, businesses and consumers, with plastics the principal target. Retailers and manufacturers that can reduce the number of single-use plastics in their products by shifting to other materials should avoid regulatory penalties and attract new customers. Supermarket giant Tesco reports sustainability is now second only to price in its surveys of customer priorities, with 90 per cent of customers saying they want to “live more sustainable lives”.29
Figure 6: Plastics pollution (million metric tonnes)
Source: Aviva Investors, August 202230
The circular economy
These developments are driving a related trend – the circular economy. Predicated on the “three Rs” – the need to reduce, re-use and recycle materials to mitigate environmental damage – it is putting inefficient companies under the spotlight and creating opportunities for leaner disruptors.
Take the textiles industry, which faces pressure to change amid rising awareness of the wastefulness of “fast fashion”. Switching to a circular economy would not only reduce the industry’s emissions and impacts on nature – notably its vast water usage – but also bring down companies’ costs and reduce their exposure to price volatility. Increasing the current rate of circularity of textile waste from 14 per cent to 30 per cent could generate savings worth $130 billion per year by 2030.31
Circular models in the automotive sector could reduce costs by up to $870 billion per year by 2030
Opportunities are emerging in fashion-as-a-service rental or subscription models, with some resale and rental platforms already reaching billion-dollar valuations. Sustainability leaders among mainstream apparel brands also look well positioned.32
While textiles is the most conspicuous example, most industries would benefit from adopting these principles. For instance, circular models in the automotive sector could reduce costs by up to $870 billion per year by 2030, based on recovering the cost of materials including plastics, metals and alloys.33
Reducing or re-using materials is preferable from a natural capital standpoint, but more recycling will also be required if a circular economy is to become the norm across industries. Recycling facilities should consequently see greater demand and alternatives to plastic may become the preferred option among businesses and consumers. Aluminium producers are set to be beneficiaries; the metal is a good candidate for a packaging alternative because it is infinitely recyclable. By contrast, paper and plastic can only be recycled a certain number of times and are “downcycled” in quality each time.34
Investable themes related to resource scarcity
Sustainable land
- Growth of nature-friendly and precision agriculture:
- Opportunities: Drone technology, geospatial data solutions, vertical farming, feed additives to reduce methane emissions from livestock, hazardous waste management
- Growth in demand for sustainability information:
- Opportunities: Providers of sustainability traceability, monitoring and verification
- Growth in demand for alternative proteins
- Opportunities: Plant-based proteins and lab-grown meat
Sustainable oceans
- Growth in demand for sustainable seafood
- Opportunities: Mariculture, sustainable fish feed, fish health
- Increased regulatory and consumer pressure to reduce water pollution
- Opportunities: Water treatment, smart sensors to reduce water leakage
- Increased regulatory and consumer pressure to reduce plastic pollution
- Opportunities: Recycling/biodegradable materials
Circular economy
- Increased regulatory and consumer pressure to re-use materials
- Opportunities: Sustainable packaging, waste treatment, durable consumer products, eco-design, aluminium
How megatrends connect
As the link between climate change and disease illustrates, megatrends are not linear; they intersect in various ways. Global warming contributes to the erosion of natural capital and threatens the social wellbeing of communities least responsible for the problem, even as social objectives in advanced economies are achieved at the cost of transgressing environmental boundaries (see Figure 9). It is important to ensure the transition to a low-carbon and nature-positive economy is not only fast, but also just.58
Investors must be careful to ensure they are not aligning their portfolios with one megatrend while ignoring others
Trade-offs abound and investors must be careful to ensure they are not aligning their portfolios with one megatrend while ignoring others. For example, solar panels used in the West are often manufactured in China by companies implicated in the forced labour of Uighur and other mostly Muslim ethnic groups in Xinjiang province – an asset contributing to the climate transition is therefore implicated in social risk.59
On the other hand, keeping track of the connections between the megatrends can enable investors to access a tap into a range of opportunities and identify companies that deliver solutions across climate, nature and society.
Consider chemicals giant DSM, which is phasing out harmful toxins and creating innovative new livestock feeds to substantially reduce the methane emissions from cattle herds, thereby protecting natural capital and the climate.60 Similarly, verification companies such as Bureau Veritas, which trace supply chains for products including palm oil, can help investors identify climate and biodiversity impacts and monitor and protect labour standards in developing economies.61
A holistic approach
Investing in line with megatrends is not simply about selecting winners and avoiding losers – companies are not static entities and performance against ESG metrics can improve as well as deteriorate.
Shareholders and bondholders can work with investee companies to improve their practices
Shareholders and bondholders can work with investee companies to improve their practices, bringing about positive environmental and social outcomes while mitigating financial risk. They can also engage with policymakers to level the playing field and remove damaging regulatory incentives through “macro stewardship”, helping make the broader financial system more sustainable and resilient.62
Uncertainties remain; one only needs to look at the shocks of recent years to see how economic and market predictions can be knocked off course. Megatrends could play out in unexpected ways or catalyse new, as-yet-unforeseen shifts. But a growing body of evidence points to the material salience of climate change, resource scarcity and demographic and social dynamics. Investors who can grasp the implications should be best placed to navigate the challenges and opportunities today and create resilient portfolios for tomorrow.
Figure 9: Developed economies (and some fast-growing emerging economies) have achieved social goals by transgressing ecological boundaries
Malawi
China
US
LS = Life Satisfaction; IN = Income Poverty; DQ = Democratic Quality; LE = Healthy life Expectancy; EN = Access to Energy; EQ = Equality; NU = Nutrition; ED = Education; EM = Employment; SA = Sanitation; SS = Social support.
Note: Green wedges show resource use relative to a biophysical boundary associated with sustainability. Red wedges show shortfalls below the social threshold (in the middle of each circle) or overshoots beyond the biophysical boundary (on the outer edge).
Source: Nature Sustainability, 201863