COP26, property & climate change – everything you need to know

Environmental Social and Governance issues are influencing the built environment, as well as investors, who are increasingly considering these non-financial factors as part of their business strategy. 

We get market-leading insight from the research team into these factors influencing change in the property market and examine how the world of real estate is responding. 

Global economic

“Scrutiny over ESG investments and assets will increase, therefore metrics and transparency on assessment will be more crucial to decisions.”

The E in Environmental, Social & Governance will continue to drive policy, regulation, and investment, but now with greater urgency given the stark warnings by the UN’s Intergovernmental Panel on Climate Change in August. According to the UN, more than 130 countries have now set or are considering a target of reducing emissions to net zero by mid-century with some increasing the urgency. In the wider context, 7,000 corporate signatories representing more than US$120 trillion in assets have signed up to the Principles for Responsible Investment. The commitment from corporations will continue to grow.

Efforts to measure and monitor these initiatives still have a long way to go to ensure resources are directed to the right places. Progress has been made by the Task Force for Climate-Related Financial Disclosures (TCFD) and almost 5,000 companies have signed up to these. The UK government made TCFD aligned disclosures mandatory for most prominent listed commercial companies in December 2020 and the Financial Conduct Authority (FCA) has just closed a consultation on extending the requirement to FCA- regulated asset managers and other asset owners – at entity and product level. We expect more governments to mandate this type of reporting.

Inflows into ESG funds grew sevenfold to US$15 billion between 2019 and 2020. However, “greenwashing” is increasingly concerning with the America’s Securities and Exchange Commission, among other regulators, cracking down on ESG-labelled products. 

The European market for sustainable investments contracted by US$2 trillion between 2018 and 2020 following the introduction of anti-greenwashing rules. This risk and how much ‘good’ they are doing has been recently highlighted in articles by Tariq Fancy and The Economist, to name a few. Scrutiny over ESG investments and assets will increase, therefore metrics and transparency on assessment will be more crucial to decisions.

Flora Harley, residential research

Global residential

“The clock is ticking.”

The clock is ticking, and the themes encompassed by ESG have taken on a more urgent relevance for investors, developers, and homeowners in the last 18 months as the link between sustainable living and wellbeing has come into focus.

But, the bottom line is still critical for global home buyers according to Knight Frank’s Global Buyer Survey. Although 84% of the 900 survey respondents said the energy efficiency of a future home was either important or very important to them, when asked what factors would persuade them to buy an energy efficient home it was clear increased monetary value was the tipping point. Some 28% of respondents confirmed they would be more likely to invest if environmental regulations were introduced that had a direct impact on a property’s value. Another 22% said cheaper mortgage finance for energy efficient homes would appeal.

At the top end of the housing market the appetite for green investing is also growing. According to The Wealth Report 2021, some 43% of wealth advisors say their ultra-high-net-worth clients are more interested in ESG-focused property investments, but only 39% feel they have all the information they need to assess ESG investments.

The challenge for COP26 attendees is to deliver change that will be sufficiently radical as to have an immediate impact on the environment but not homeowner’s pockets, if leaders want mass market appeal. Technology and innovation will be key.

Kate Everett-Allen, head of international residential research

Global occupier

“The science is unequivocal – we have no more than 30 years to save the planet from catastrophic climate change.”

As corporate carbon reduction targets increase, the role of real estate in their attainment will need to be better recognised and realised.

The last time we emerged from a global financial crisis, cost concerns served to terminate mounting occupier interest in sustainable real estate. For the best part of the ensuing decade, the majority of businesses brushed aside the issue.

As we emerge from the pandemic, will history repeat itself? The outcome absolutely needs to be different. The science is unequivocal – we have no more than 30 years to save the planet from catastrophic climate change. Encouragingly, business leaders are responding; moving en-mass to put in place bold and public net zero carbon targets.

In fact, more than 40% of the global businesses we surveyed, as part of our recent (Y)OUR SPACE research, already have a net zero carbon target in place. Reflecting the severity of the situation, more than three quarters have target dates of before 2030 – or to put it in real estate terms, one market cycle.

Realising these ambitions does put real estate firmly in the frame, given that The World Economic Forum estimates that both commercial and residential real estate is responsible for around 40% of all global carbon emissions.

When it comes to addressing the climate challenge, there is some road to run in aligning stated corporate targets with real estate strategy. Closing the gap is a responsibility for all in the real estate sector. We must share best practice and thinking.

Corporate real estate teams need to educate their business leaders about the potential real estate presents in meeting sustainability goals. Accreditation bodies need to do more to build understanding about their systems and the financial benefits they bring to both owners and occupiers. Developers and owners will need to move beyond mere building labels to better articulate how truly sustainable offices can optimise an occupiers real estate spend and support their wider ambitions.

Lee Elliott, global head of occupier research

UK retail

“Put simply, consumers are yet to practice what they preach – they talk the ESG talk, but don’t walk the ESG walk.”

Environmental has a tendency to dominate ESG narrative, but Social and Governance issues are of equal significance – and are perhaps even less transparent. Amongst the headlines heralding the decline of the high street, it is easy to gloss over the fact the retail industry is the UK’s largest private employer, providing jobs to over 2.8 million people, approximately 9.3% of the working population. Retail remains a core component of the UK’s social fabric, with retail vacancy frequently cited as a barometer of a town or city’s health. Retail bricks and mortar contribute a huge amount of wealth for communities and the public purse – with retailers paying 25% of all business rates.

But within S and G, you don’t have to look far before the contradictions set in. Without naming and shaming, many of the best retail operators in terms of performance (trading and share price) are those with some of the most dubious ESG credentials. For example, revelations of modern-day slavery practices at a number of online fashion operators have not derailed their trailblazing performance in any discernible way. Put simply, consumers are yet to practice what they preach – they talk the ESG talk, but don’t walk the ESG walk.

ESG is rightly rising up the agenda in retail, but consumers and investors alike remain vulnerable to greenwashing. The holy grail in retail remains achieving significant cost savings from environmental strategies, thereby obviating the ‘cost vs conscience’ deliberation that currently dominates thinking.

Stephen Springham, head of retail research

UK farms and rural estates

“New ways of thinking will be required.”

Climate change will be the defining force that shapes the future of rural land-based businesses, and by consequence agricultural land values, either indirectly or directly.

Directly because rising temperatures are already influencing the crops that farmers can or can’t grow.

As an opportunity, productive vineyards, for example, are now a more realistic proposal across large parts of the country – land with the appropriate soils can command a significant premium over agricultural values.

More challenging are the new pests tempted to the UK by shifting climate conditions. Honeybees, vital for pollinating crops, are a target for more aggressive insect invaders like hornets, while native tree species are at risk from foreign diseases.

This, however, isn’t a new trend for farms and estates to cope with; climates have always changed and cropping patterns adjusted accordingly, albeit not at the rate we are seeing now.

The bigger challenge, which not all rural businesses perhaps appreciate yet, will be the indirect impact of government climate change policy, in particular its ambitiously short journey to achieving net zero (replicated by many companies in the food supply chain supplied by farmers).

In combination with Brexit and the UK’s departure from the embrace of the Common Agricultural Policy, government support for agriculture is fundamentally changing. Many businesses previously underwritten by subsidy payments will become unviable if they cannot generate replacement income streams, while at the same time reducing their own carbon emissions to satisfy their customers.

Environmental support schemes and payments for public goods, such as flood mitigation, will fill some of the gap, but not all of it. New ways of thinking will be required. Rewilding, tree-planting and regenerative agriculture are already firing up the imaginations of a new breed of landowner who are paying strong prices for the limited supply of land coming up for sale across the country.

Andrew Shirley, head of rural research 

Middle East

“Green is definitely the new black, and in the Middle East the green agenda is not just a superficial flavour of the month.”

The big challenge, for the office market as we see it will be how landlords and businesses will attract workers back to their desks in a meaningful way. We know the green agenda will be core to this and is likely to influence the real estate decisions of nine out of 12 businesses in the future, as evidenced by our Global Y(O)UR SPACE Survey, so commercial landlords are in a way being presented with a roadmap to safeguarding future demand and therefore income.

As Dubai’s prime office stock in core location ages, the calls to refurbish and greenify will grow louder, or such assets could potentially face rising voids and potential obsolescence.

Green is definitely the new black, and in the Middle East the green agenda is not just a superficial flavour of the month. Half of the respondents to the global buyer survey cited the energy efficiency of their next home being a ‘very important’ issue, compared with 42% of global buyers.

This should send a very strong signal to developers and planners around the region about how important being greener will be in driving the success of new projects. Furthermore, COP26 in Glasgow will help to cement 2021 as the “year of the green re-awakening” for real estate and the green drumbeat is only going to grow louder as investors and buyers zero in on this all-important issue.

Faisal Durrani, head of Middle East research

Global capital markets

“All of this brings together that the focus on ESG is only going to strengthen for real estate capital markets over the coming year.”

In a global market driven by cross-border investment, focus on ESG is of increasing importance across EMEA, Asia Pacific and the Americas. At the policy level, many countries have set out a green recovery from the pandemic and with the built environment contributing 40% of carbon emissions, commercial real estate is front and centre to this.

Looking at weight of money, we forecast that next year could be a record year for global cross-border capital flows. However, not all real estate will benefit equally, with core, well-located, sustainable assets seeing some of the most liquidity, as ESG is targeted by a broader range of investors.

At the building value level, our Active Capital research has identified an 8%-18% sales premium for green-rated office buildings in London, Sydney and Melbourne, compared to the equivalent unrated buildings, and adjusting for other building and locational factors which influence price. This is driven by a combination of income and yield effects; the income effects come from a rental premium for green rated buildings. The yield effect of green-rated buildings most likely comes from enhanced liquidity and reduced obsolescence risk from any future real estate legislation the government might introduce to help meet its carbon targets.

Looking forward, as the focus shifts from just operational carbon to also considering embodied, or lifecycle carbon, we could see an increased interest in the refurbishment and asset repurposing as well as newly built, highly operationally efficient buildings. We are also likely to see an increase in focus on the Social and Governance aspects of ESG, with tenant governance being a potential complementary tool for use by landlords considering tenant covenant.

All of this brings together that the focus on ESG is only going to strengthen for real estate capital markets over the coming year.

UK capital markets

“If investors aren’t yet seeing a focus on ESG in real estate, expect that they soon will.”

The UK has led the global charge for environmental assessment of real estate. The first building assessment was undertaken by Watford-based Building Research Establishment in 1990, which has since morphed into BREEAM, one of the most recognised international certifications. Unsurprisingly, therefore, there are more than 12,000 green-rated buildings across the UK, creating a broad pool of green investible real estate assets.

The remit of the Bank of England was also changed in the spring budget to support meeting carbon targets and develop green finance, this is expected to further support sustainable financing, including for real estate, further supporting the capital markets, more detail of which is available in our Active Capital research.

A broad range of investors, particularly institutional and investment managers, whose own investors are signed up to the TCFD, are also increasingly targeting green assets, with a myriad of supportive bodies. From GRESB, the global ESG benchmark for real assets, to the Better Building Partnership and UK Green Building Council, there is a lot of support for green real estate investment. While to date, London has been a particular focus for green investment, this is now being seen more widely across the UK. If investors aren’t yet seeing a focus on ESG in real estate, expect that they soon will.

Victoria Ormond, head of capital markets research

UK logistics

“Brands that do not embrace sustainability as a key element in supply chain strategy, risk falling behind.”

We anticipate that COP26 will bring environmental and sustainability concerns front of mind for consumers and the media, who are increasingly scrutinising retailers’ and supply chain operators’ credentials.

We expect environmental and sustainability concerns to be increasingly important for supply chain operators. The environmental, social, and ethical impacts of the whole supply chain, from sourcing, manufacturing and processing through to delivery, are all being examined. Brands that do not embrace sustainability as a key element in supply chain strategy, risk falling behind.

We believe that behaving more sustainably is becoming critical for logistics operators and delivery partners, with retailers and consumers demanding higher sustainability standards. Logistics operators and delivery partners are key to helping retailers reach their supply chain sustainability targets and, in turn, green credentials are becoming an important tool for these firms in securing contracts with retailers. Logistics operators are competing to enhance their environmental credentials in order to secure new retailer contracts, this is fuelling demand for greener, more sustainable logistics facilities.

However, we also expect SMEs within the sector to bear the brunt of regulatory measures to curb emissions. Clean air zones are being implemented in towns and cities to improve air quality in urban areas, encouraging the replacement of older, more polluting vehicles, with cleaner alternatives. The requirement to upgrade fleet vehicles or face paying a charge could mean some SMEs and heavy industry operations can no-longer afford to operate within urban areas. Financial support will be needed if smaller firms are to move towards net zero.

Claire Williams, research associate, industrial and logistics

Find out more

Knight Frank ESG commitment

Environmental, Social and Governance is deep-rooted in the DNA of Knight Frank. ESG strategy is at the core of the business, from tackling climate change with our road map to net zero, to providing specialist advice directly to clients.

ESG podcast episodes

Intelligence Talks sees Anna Ward joined by industry experts from the Knight Frank research team and other leading professionals to provide analysis and commentary on the latest hot topics making the headlines.

With ESG issues making more and more headlines, Anna has touched a number of ESG-focused episodes including how to heat homes in zero-carbon Britain and solving the green homes problem and when it comes to net zero - what can we learn from Joanna Lumley? 

Webinars & media

The Consultancy Talks webinar series looks at the impact of ESG factors on commercial real estate valuation and ESG in the built environment. You can also discover the latest on the current landscape for sustainable cities striving for a Net Zero future and get fascinating insight into the most sustainable office tower ever built in London, with Edge Technologies.

We also take a look the Active Capital report through an ESG lens.