Global real estate - one of the largest contributors to greenhouse gas emissions - should become net-zero in less than three decades. With as much as 80% of the predicted building stock for 2050 already in existence today, this best illustrates the scale of the challenge. Meanwhile, the commercial real estate market has not, as yet, officially acknowledged either the costs of necessary property upgrades or the costs of delaying or not taking any action. At the same time, due to a lack of market standards, benchmarks and a system of data collection, valuers can hardly factor ESG risks in property valuations. This impasse has significantly increased the risk of a carbon bubble.
Today, investment funds frequently rely on climate risk assessment tools such as CRREM (Carbon Risk Real Estate Monitor) in assessing which assets in their portfolios are likely to be stranded in terms of environmental impact and risk of losing value over time. At the same time, valuers still lack sufficient market data to properly factor ESG transition risks in real estate values. This is likely to keep property values at higher levels, leading to a risk of a carbon bubble,
explains Ilona Otoka, Senior ESG Consultant, Licensed Valuer, global real estate services firm Cushman & Wakefield.
If we allow it to inflate and take too long to incorporate the risks of transition towards a low-carbon economy in real estate values, the carbon bubble is likely to result in sudden repricing,
adds Ilona Otoka.
A growing proportion of office stock is at risk of falling out of the market
While it is not too complicated to give an estimate of the costs of replacing a building’s systems or other upgrades, it is much more difficult to assess the risk of new taxes or charges for excess carbon emissions. Meanwhile, a wave of stranded assets is likely to arrive much sooner than we may think,
says Ilona Otoka.
Deflating the carbon bubble step by step
The lack of a market standard is the biggest challenge, which cannot be overcome overnight. Without reliable analyses and evidence, we are unable today to assess to what extent capex could improve a property’s energy efficiency and value. What we, as valuers, can already do is describe risks in real estate valuation and take account of specialist analyses such as climate risk analyses in order to calculate asset property values as best as we can. More and more of our clients are carrying our net-zero analyses and developing decarbonisation strategies for their real estate, which is a step in the right direction. A useful piece of information during the valuation process is, for example, the stranding year, that is an expected year in which a property will be above a decarbonisation pathway resulting from the targets set in the Paris Agreement and is likely to become less attractive due to the transition towards a low-carbon economy. This transition includes new environmental challenges, strict sustainability regulations or changing social norms and market relations, including tenant and investor requirements. Properties that are energy-inefficient or dependent on fossil fuels will be incompatible with a low-carbon economy and as such will be less sought-after and considered more risky. Taking account of this risk will help minimise its negative impact on property values,
explains Ilona Otoka.
Valuers act in compliance with legal regulations and professional standards, but when it comes to risk assessment, they rely primarily on market data. Change must take place fast and the market’s response must be clear. Standards and regulations must also regulate the issue of taking account of sustainability factors and transition toward a low-carbon economy – only then will valuers be able to fully reflect the transition risks in property values,
concludes Ilona Otoka.
About Cushman & Wakefield
Cushman & Wakefield (NYSE: CWK) is a leading global commercial real estate services firm for property owners and occupiers with approximately 52,000 employees in approximately 400 offices and 60 countries. In 2022, the firm reported revenue of $10.1 billion across its core services of property, facilities and project management, leasing, capital markets, and valuation and other services. It also receives numerous industry and business accolades for its award-winning culture and commitment to Diversity, Equity and Inclusion (DEI), Environmental, Social and Governance (ESG) and more. For additional information, visit www.cushmanwakefield.com.