There’s a distinct window of opportunity for institutional investors to generate attractive risk-adjusted returns through refurbishing brown buildings in Europe to make them operationally carbon neutral, said Lucy Swinton, investment director at Fidelity International, during the Canadian Investment Review’s 2023 Global Investment Conference.

Environmental, social and governance — particularly the ‘E’ aspects — is increasingly becoming a disruptive force across the region, as Europe endeavours to meet targets outlined in the Paris Climate Agreement, she said, noting the real estate sector accounts for 36 per cent of the region’s greenhouse gas emissions.

“Over 85 per cent to 90 per cent of the buildings that are standing today need to be refurbished in order to meet climate targets.”

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According to Swinton, today’s European real estate industry is being driven by three key forces: regulation of the sector, regulation of the investment industry as a whole and the rising number of companies with their own net-zero carbon commitments due to stakeholder and regulatory pressure.

Across Europe, governments and policy-makers are ramping up their regulation of the real estate sector. In the Netherlands and the U.K., for example, buildings must now meet certain minimum levels of energy performance standards in order for the landlord to lease those buildings, with these standards set to increase in severity over the next few years, she said, noting these regulations are already starting to have a negative impact on the value of properties that don’t meet those minimum energy efficiency standards.

In terms of the regulation of the investment industry as a whole, Swinton said there has been a significant increase in the amount of regulation focused on “greening” the finance sector over the past year years and it’s continuing to accelerate across Europe. The most prominent regulations are the sustainable finance disclosure regime and the E.U. taxonomy, she noted, which aim to drive investment into the sustainable parts of the economy and make those sustainable investments more transparent.

“There’s a lot of disclosure requirements now in place . . . resulting in investors becoming increasingly focused on acquiring already green buildings, which ultimately meet their own regulatory requirements, as well as the needs of the underlying investors . . . who also have their own sustainability-focused regulations [to] grapple with.”

Swinton highlighted the significant uptick in demand for green buildings across the market as a result of these regulations.

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Looking at the rising number of companies in Europe with their own net-zero carbon commitments due to stakeholder and regulatory pressure, she cited an example from the U.K., where all listed companies are now required to publish net-zero carbon transition plans and regulators are planning to extend the legislation to include all large private companies. A net-zero carbon building is key to these companies achieving their carbon-neutral ambitions, said Swinton, so there’s accelerating demand from occupiers for these types of energy efficient green buildings.

Additionally, the Russia-Ukraine war has resulted in a spike in energy prices across Europe, which has meant occupiers are focusing on reducing the cost of their leases, she said, noting energy efficient buildings provide an avenue to do just that. Office buildings represent a significant proportion of a corporation’s overall carbon emissions, said Swinton, noting the demand for green buildings is significantly increasing from both investors and occupiers, but it’s also outstripping the supply of green buildings in Europe.

Europe also defines green building through certification, which offers different levels of ratings, depending on how green or sustainable a building actually is, she noted. Just 20 per cent of the buildings across Europe have some sort of green certificate; however, buildings with leading green certificates, which are in the greatest demand, are in even shorter supply, she added, noting the significant supply-demand imbalance in the market is resulting in a premium being paid for these assets today — across both rents and the prices of buildings.

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A recent CBRE Group Inc. study showed the average office building in Europe with a green certification can command a rental premium of around 20 per cent, said Swinton, while a recent survey by Jones Lang LaSalle Inc. found nearly all (92 per cent) European employers said they’d consider paying — or they’ve already paid — a premium to occupy a leading sustainable space.

“Green buildings in Europe are leasing faster and have lower vacancy rates than their non-green counterparts. So really [it] just make[s] good investment sense today.”

Read more coverage of the 2023 Global Investment Conference.