【Certified ESG Analyst Insights Sharing】Gary Lau, CESGA
With rising sea levels, more frequent extreme weather events, and changing precipitation patterns, the effects of climate change are becoming increasingly evident across the globe. As the world grapples with the challenges of climate change, Hong Kong’s real estate industry is facing a severe threat from climate change. Yet, the industry has been slow to react to the shift. The city’s highly developed urban landscape, combined with its vulnerability to extreme weather events, makes it particularly susceptible to the impacts of climate change. Despite the dire warnings and evident risks, the industry has failed to prioritise climate change mitigation and adaptation measures, and this lack of action could have severe financial and economic impacts to the city.
The impacts of climate change on real estate are multifaceted and can be observed in terms of physical risks and transition risks. One evident physical risk of climate change is the increasing frequency and severity of natural disasters. These extreme weather events can result in extensive physical damage to properties, leading to costly repairs. For example, there were around 500 reports of broken windows during Typhoon Mangkhut in 2018 in Hong Kong. Several high-rise commercial buildings had their glass curtain walls destroyed, resulting in serious damage to interior units. According to a report by the Hong Kong government, the total cost of repairing damaged government properties, facilities, slopes, and trees amounted to HK$41 million.
The rise in sea levels is another visible impact of climate change that poses considerable physical risks to coastal real estate. Rising sea levels can increase the risk of flooding, leading to costly damage and threatening the availability of land for development. According to a report issued by China Water Risk, a non-profit initiative based in Hong Kong, it is projected that around 55% of the city’s commercial buildings and 23% of residential buildings will be threatened by a 2-meter rise in sea levels by 2100. By then, 82% of the Hong Kong government’s total revenues will also be affected, creating a significant shock to the city’s real estate and economy.
In addition to physical risks, the escalating insurance premium is one of the transition risks of climate change to the real estate industry. With the expected growth in physical risk exposures and insurance claims due to climate change, the risk-based premium levels will increase over time, potentially impairing the mid-term and long-term affordability and availability of insurance products of properties. To illustrate, Typhoon Mangkhut incurred HK$3.7 billion insurance claims and caused around HK$4.6 billion economic losses in Hong Kong. In view of the exposure to higher costs, there could be a declining market attractiveness in properties located in high-risk areas, resulting in decreased market values and if not, a depressed market environment.
Increasing regulatory focused on climate change could also pose risks to real estate when transiting to a low-carbon economy. When government targets a more sustainable and carbon-free city, new policies and legislations such as stricter disclosure on climate risks and building standards may be implemented, bringing impacts to the real estate industry such as higher project cost. For instance, according to the Hong Kong Institute of Surveyors (HKIS)-funded research conducted in 2016-17 across the globe including Hong Kong, there is a 34.06% increase in capital cost in green building projects on average when compared to conventional building projects.
Despite the pressing need for action, Hong Kong’s real estate industry has been slow to adopt Environmental, Social, and Governance (ESG) practices. Although Hong Kong has made progress in developing ESG policies and practices, it still lags behind regions such as Europe and North America, where there is a greater emphasis on sustainability and social responsibility. The Hong Kong Stock Exchange has introduced several measures to promote good governance practices among listed companies. For example, in 2016, it introduced a requirement for listed companies to publish annual ESG reports including specified mandatory disclosures, and requiring other disclosures on a comply or explain basis. More needs to be done to encourage the widespread adoption of ESG practices in the real estate sector. The industry must embrace ESG practices, adopt green building standards, and make climate change mitigation and adaptation measures a top priority.
In fact, there is no lack of good examples of real estate companies having good ESG practices in Hong Kong. While some companies have made efforts to reduce their carbon footprint and adopt sustainable practices, there is still a need for more widespread adoption of ESG practices in the industry. Despite the launch of BEAM Plus Assessment System and Gross Floor Area (GFA) Concession Scheme since 2010, the adoption of green building practices in Hong Kong has been insignificant with the high initial cost of a green building project being one of the greatest obstacle.
To address the cost concerns of developers and promote sustainable building practices, the Hong Kong government may consider providing stronger financial incentives such as tax credits, subsidies, and grant apart from GFA concessions. Lessons could be learnt from the United States, where the federal governments and some state governments offer tax credits for buildings that achieve LEED certification and meet certain energy efficiency standards. For instance, corporate tax credits are eligible for LEED Certified commercial buildings with at least 200,000 square feet in New Mexico State. The tax credits help to offset the higher upfront costs associated with green building materials and technologies, making it financially feasible for building owners and developers to pursue LEED certification.
Meanwhile, the Hong Kong government may take references from Singapore’s regulations on green building standards to further promote the development of green buildings. Unlike the BEAM Plus Assessment System, which is optional to application, the Green Mark Certification in Singapore is mandatory for all new building projects. The Green Mark Certification is only valid for 3 years after the issuance date. So, renewal is required before the expiration, ensuring all the buildings achieve the required standards and keep up with the government’s target on sustainability all the time. By 2020, over 4,000 building projects had received the certification, covering 123 million square meters, which represents 43% of Singapore’s total building stock.
Furthermore, Hong Kong government may develop a green mortgage policy to encourage the sale of energy-efficient homes to homebuyers, which would incentivises green building standards and sustainable real estate development. For example, the Federal Housing Administration in the United States offers the Energy Efficient Mortgage programme which offers lower interest rates and higher loan limits to borrowers to purchase homes that meet certain energy efficient standards. A similar policy can also be adopted in Hong Kong by working with banks and financial institutions to offer green mortgages. Hong Kong may develop an energy-efficiency standard for homes and clearly define the qualification of applicants for green mortgages. Government could encourage greater adoption by working with banks and financial institutions to provide education and support to homebuyers on the benefits of energy-efficient homes and the process of obtaining a green mortgage through marketing and public campaigns.
All in all, Hong Kong’s real estate industry must act urgently to address the challenges posed by climate change. The industry must prioritise climate change mitigation and adaptation measures, embrace ESG practices, and adopt green building standards. Stronger financial incentives from the government and is necessary to encourage the widespread adoption of sustainable practices in the industry. Failure to act could have severe financial and economic consequences for the industry, as well as for the wider society of Hong Kong.