[Article] Carbon Transition: Risk & Opportunity for U.S. Public Finance

In BDA's Fixed Income Insights Winter edition, Triet Nguyen discusses the possible ramifications to the municipal sector as investors start to take into account carbon transition risk.

The recent global climate summit in Glasgow, Scotland, known as “COP26”, has brought the issue of “carbon transition” back to the top of policymakers’ agenda. Since the U. S. has officially rejoined the Paris Agreement this past February, with a goal of achieving carbon neutrality “no later than” 2050, it is clearly time for our industry to start pondering what decarbonization will mean for municipal market issuers.

In this Fixed Income Insights article, DPC DATA VP of Strategic Data Operations Triet Nguyen looks at the components of the rising “carbon transition risk” for state and local governments, draws some parallels to the public pension crisis, and then explores how this will translate into potential opportunities for the public finance sector.

Why Carbon Transition Matters

Concurrent with the escalating interest in sustainable investing in the tax-exempt market, municipal analysts and traders are increasingly concerned about one particular aspect of climate risk: the so-called “transition risk”, defined as the risk stemming from the transition to carbon neutrality by the target date of 2050.

A recent paper from the Principles For Responsible Investment Group (“PRI”) further elaborates on the issue as follows:

“Transition risks arise from measures taken to mitigate the impact of climate change or from policy responses to climate change (…) Many of these changes will require upfront investment, with [a recent] study estimating at least US$2.5 trillion of additional capital spending towards energy supply, industry, building and vehicles by 2030. As the ultimate guardians of land use planning and public investment, as well as the first responder to climate-related events, local governments, counties and municipalities are responsible for the planning and implementation of adaptation practices.

Changes to policy and spending priorities will have repercussions for sectoral economic activities and for state and local governments’ budgets, especially for those reliant on economic activities that are vulnerable to transition risks, such as in the utility sector.”

Given the above framework, transition risk may impact municipal creditworthiness in several ways >>> Download the article

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