Hedging climate risk

3. Mitigation vs. adaptation, heat, and white paint

Note: The views expressed here are the author’s own and do not reflect the views of Azolla Ventures or Prime Coalition.

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Some housekeeping

1. My Azolla teammates Amy, Lauren, and I published a piece in My Climate Journey about reducing unconscious bias in hiring at small firms. Long story short, we ran an experiment on ourselves. Check it out here:

Should VCs and startups add blind review to their hiring toolkit?

2. Back in November, I gave a talk on one of my favorite underdogs in climate, geothermal energy, and the recording is now live. I hate watching myself talk, but maybe you won’t. Check it out below:
   

Now back to our regularly scheduled programming.

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Hedging climate risk

As I often write about here, I’m interested in both:

1. Mitigating climate change: reducing GHG emissions so that we can minimize how much we have to adapt to a changed planet; and

2. Adapting to climate change: continuing the flourishing of the species as the planet changes around us.

The two have a bit of overlap, but one of my big themes is that it’s far from 100%. Another big theme is that while the technology and investment communities have spent decades and billions on mitigation, far less time and money have been spent on adaptation.

So it caught my attention when Wellington, an investment management firm with >$1T in assets under management, came out with a polished point of view on investing in adaptation. Here’s their core idea:

We believe most investors are “short” climate risk; in other words, a large-scale climate event is likely to detract from portfolio returns rather than increase them. Investments in adaptation can serve as a hedge against this exposure, as we expect future demand and thus market returns to be correlated with the structural trend of climate change.

Let me start off by saying that I’m not formally trained in finance. I’m formally trained as a chemist. Sure, I go to work and do my venture capital job every day, but seed-stage investing is really more talent and technology scouting than it is rigorous financial modeling. And sure, over time I’ve learned some basics of portfolio construction, but my start was, like, listening to the Freakonomics Radio and Masters in Business podcasts while shoulder-deep in a glovebox. I’m gonna be a little out of my depth here. Let me also say that nothing here at Adapting has been, is, or will ever be investing advice.

With that being said: hedging climate risk seems like an obviously good idea? If you’re an investor, and you believe that climate change is a big structural trend that is going to impact financial markets, and you’re interested in building a portfolio that will generate outsized returns in markets affected by climate change, wouldn’t you want some investments whose returns will correlate positively with climate change?

With this realization, what would you invest in? How would you actually hedge against climate risk? This is something I’ve been thinking about for a while, but mostly in a jumbled and unstructured kind of way. So let’s take a swing at giving this some structure. Allow me to present Mitigation vs. Adaptation, v1:

Source: Author

As “v1” suggests, there’s a lot to refine here, and I’m excited to do it. More generally, nothing I write here is ever a final word. If anything I write about is interesting to you, I’d encourage you to learn with me, not from me; do your own research and share what you find! I’m lucky to have smart readers who want to explore the strange corners of climate change with me.

So here’s one approach: ESG investing (top half of the chart, in green). You could make investments that take into account carbon emissions, pollution, green-energy initiatives, that sort of thing. Since you’re financing solutions to the problem of climate change and helping ensure civilization’s long-term viability, perhaps your investments will outperform similar investments that don’t help solve the problem.

For example, maybe you’d buy stock in Allbirds over Puma because Allbirds puts sustainability front and center, while Puma seems decidedly more wishy-washy. This approach seems reasonable, but it doesn’t obviously seem correlated with the effects of climate change. Sure, Allbirds will probably hit net-zero emissions before Puma, and that will incrementally slow down the shoe industry’s contributions to climate change, but it’s hard to see why Allbirds would generate outsized returns because of climate change.¹

You could imagine cases where ESG investing and climate risk hedging overlap, like CO₂ removal, but they’re not exactly the same. In any case, ESG seems to be the approach that the bulk of investors are taking, or at least talking about.

Here’s a second approach: you could make investments that both correlate with and contribute to climate change (bottom-right, in gray). Let’s call this the “blackpilled” approach. You recognize that climate change is happening, and either A) you don’t care, B) you believe your choices are meaningless at the scale of climate change, or C) you believe that investments that both accelerate and benefit from climate change will have a self-reinforcing quality that improves returns.

Hell, since these investments are toxic to the $120B/year ESG movement, maybe there’s a lot of capital missing out on these opportunities and maybe they’re even underpriced. Think: oil & gas exploration in thawing parts of Siberia, shipping through newly broken ice in the Arctic Ocean, HFC refrigerant production for increasing air conditioning demand. Not all of these will represent climate risk hedges, but a good chunk of them will! Arguably there’ll be more overlap than there is with ESG.

For the record, I don’t think either of these is a very good approach.

Here’s a third approach: you could make investments that correlate with climate change and seek to brace society against it (right, in red). You might believe that we as a species are going to survive climate shocks, but in order to do so, we’ll need a bigger toolbox. Let’s call this the climate risk hedge. Think: seawalls, resilient building materials, that sort of thing. In a changing climate, there will be more demand for these products and services; so long as they don’t hugely contribute to climate change, you might consider investing in them. This is what Wellington seems to propose.² Here’s their landscape of solutions:

Source: Wellington Management Company

As suspected, this list is pretty different from lists of mitigation solutions created over the years (here’s a well-known one). There is some overlap – for example, grid/transmission upgrades and smart meters – but not much.

I’m bullish on the climate risk hedge. I think there’s a huge whitespace in adaptation for company builders and capital allocators. We’ve talked about a few of these in previous issues, and we’ll continue in subsequent ones. Together, we can create the toolbox we’ll need to thrive for the next hundred years.

Again, please beat up this analysis and let me know what you think. As always, you can reply directly to this post or drop me a line.

Heat

Since climate change will generally make the air hotter and more humid, it’s worth thinking about how humans respond to heat. One way to do that is to treat humans as a heat transfer problem.³ In this framing, we’re 100 Watt water heaters equipped with cooling systems to keep our body temperatures near 98.6 ºF in a range of surroundings.

We cool off passively by releasing heat through the skin (i.e. a heat exchanger), and we cool off actively through a few different systems:

• Sweat glands, which take advantage of evaporative cooling

• Breathing, which forces warm air out and cool air in

• Metabolism, which can be sped up or slowed down to manage body heat

• A brain, which tells the rest of the body how to maintain homeostasis: where to go, what to wear, what the body’s limits are, and so on.

It’s worth saying that active cooling is a tax on the body’s energy budget. These systems consume energy that would otherwise power functions besides cooling.

Humidity factors in, too. Water is a better heat transfer fluid than air, so as air gets more humid, it gets better at dumping heat into your body or sweeping it away. Humidity also makes sweat less effective, since water doesn’t evaporate as readily when there’s already lots of it in the air. This is why we measure the heat index.

As a species, when our cooling systems fail us, we become less productive, we have more trouble learning, and we even become more violent.⁴ Excessive heat is a stressor, and stressors cause real harm. At the scale of cities and nations, heat will affect the economy! We’re now at a point where economists can quantify these effects. Here’s a report by the Atlantic Council:

Our study estimates the total economic loss from heat in the United States to be at least $100 billion annually—a figure that will double by 2030 and quintuple by 2050 if we don’t reduce our greenhouse-gas emissions or adapt to the changing climate. By comparison, last year’s record-breaking US hurricane season caused an estimated $60-$65 billion in economic losses.

We calculated economic loss by assessing how heat is impacting worker productivity. This means time lost on the job when people have to take breaks to avoid overheating—and when it’s too hot for them to work at all. It also means the ways that we all slow down and become less efficient when working in the heat. It’s the construction worker forced to put down equipment and seek shade; the delivery driver struggling to keep up the intense pace of delivery in high temperatures; the mask-wearing employees bogged down in warehouses without enough cooling and ventilation. And it’s the office workers, too, who find that they can’t think quite as clearly on the days when the air conditioner can’t keep up with rising temperatures.

These economic tolls boil down to access to air conditioning and outdoor work. Providing access to air conditioning seems straightforward as a concept: we need more of it, it needs to be energy-efficient, and it needs to use refrigerants with lower global warming potential.⁵

But what can you do about outdoor work? Other than, you know, reverse climate change? A lot of work just has to happen outside. My mind goes to two places:

1. Providing cooling to outdoor workers, such as cooling tents or air-conditioned construction equipment

2. Limiting outdoor work in excessive heat, through measures such as increased break time or work stoppage during heat waves

In harsh economic terms, option one maintains productivity but increases cost; option two maintains cost but lowers productivity. Neither is great; you’d rather have a tolerable climate.

But I think there might be another scenario within option two: limit outdoor work by roboticizing and automating more aggressively. Just as we no longer rely on horses for transportation and human pilots for war, we’ll probably want robots to do the hot outdoor work that is dangerous for humans. This will be super heterogeneous, since there are huge differences in types of outdoor work. We already have a lot of reasons to automate, but now we have extreme heat as another. In any case, it seems like outdoor laborers are going to lose.

Painting things white

When I took an Earth Sciences 101 class in college, I learned about a concept called albedo. There’s a more technical definition, but it’s basically a measure of how white the earth is.⁶ Lighter surfaces (high albedo) reflect more sunlight than darker surfaces (low albedo). The Earth system is a delicate balance between incoming and outgoing energy, and the whole “habitable Earth” thing only happens when that balance is just so. It turns out that the color of the Earth factors in meaningfully.

The main natural contributors to albedo are ice/snow (30-85%), sand (35-45%), water (~6%), plants (5-25%), and clouds (35-80%). As you can imagine, this means that albedo is very different in different parts of the world. As a species of terraformers, we also could imagine making changes to Earth’s albedo. As we discussed a few issues ago, seeding clouds is one way. Building cities out of dark materials is another; this has contributed to the urban heat island effect.

But you could get even more straightforward about it and just paint lots of things white. A few cities are starting to do this, increasingly citing it as a means of mitigating global warming. Here’s New York:

Summers in New York can be extremely hot, and the city is taking steps to reduce the temperatures inside buildings through a program that most New Yorkers don't even see.

Since 2009, New York City has used more than 9.2 million square feet of paint in free roof upgrades to nonprofits, hospitals, and affordable housing buildings, the city announced Tuesday. This year alone, workers have painted 1.5 million square feet of rooftops, surpassing the annual goal of 1 million square feet.

The CoolRoofs program hired 70 people last year for 10 weeks to help coat roofs with white paint, which can significantly decrease buildings' internal temperatures and lower air conditioning costs, according to Small Business Services, which runs the program.

In general, cities are hotter than rural areas because their asphalt roads and concrete buildings absorb heat. Local temperatures in cities can be higher by up to five degrees Fahrenheit, which can increase air pollution, cause heat-related deaths, and drive up air conditioning costs.

Light-colored roofs could help cool cities and alleviate some of climate change's worst effects. They can even act as a low-stakes version of geoengineering, or intervening with the planet's climate system to reverse global warming — without the potentially dangerous consequences of other approaches like solar geoengineering.

Low-stakes geoengineering – sounds cool. But how low-stakes is it? Let’s do some math.

Our goal here is quick and dirty. If you wanted a precise answer, you could spin your wheels on this for a while. That’s not our goal. So let’s make a few generous assumptions:

• Rooftop starting albedo: 12% (asphalt; reality is probably higher)

• Rooftop ending albedo: 90% (very white; reality is probably lower)

• Heating power of the sun: 1,000 Watts per square meter (this one’s pretty close)

Let’s also ignore all the other factors that would make this a nuanced calculation you’d want a professional to do. Let’s assume:

• The white paint doesn’t get dirty

• The time of day and year don’t matter

• No cloud cover

• All sunlight reflected by the roof goes away forever

• All wavelengths of sunlight are absorbed or reflected equally

• There are no other complicating factors

The point of drawing this simplified picture is to arrive at simplified math:

Cooling power = Area × Solar power × Increase in reflectance

Now let’s plug in what the article tells us: 9.2 million square feet (850,000 square meters) of rooftop were painted white. This gives us:

850,000 m² × 1,000 W/m² × (90% – 12%) = 633,000,000 W

633 megawatts of cooling – that’s a lot! The average central AC system is 4 kilowatts, so this white paint campaign is roughly equivalent to 160,000 central AC units.

BUT: this is tiny on the scale of a city. New York City’s land area is 300 square miles (777 million square meters). Taking the albedo of a typical city to be 12%, New York City sees solar heating of:

(777,000,000 m²) × (1,000 W/m²) × (12%) = 93,000,000,000 W

93 gigawatts of heating – that’s a lot more. So, generously, we now have a picture where ~0.7% of the sun’s energy hitting New York is being reflected by white rooftops. To be clear, it’s not nothing! But it’s not large. A cloudy day (albedo = 35-80%) would completely wash out this effect.

But what about at the level of a single house? Is painting your roof white a meaningful way to reduce your cooling load? Taking the average US roof area of 1,700 square feet (158 square meters), you’d see net cooling of roughly:

(158 m²) × (1,000 W/m²) × (90% – 12%) = 123,000 W

123 kilowatts – 31 AC units’ worth of cooling! But here’s the thing, this number doesn’t pass the sniff test. It’s plainly obvious that painting the roof white does not meet a house’s AC needs 31 times over.

At the building scale, there are multiple sources of heat – solar heat gain, conduction from the ground, convection of warm air from outside. Plus, you don’t want to reject ALL of the heat entering a building, just enough to make it comfortable. It all adds up to a complex energy balance, definitely more complex than one guy’s arithmetic. This is where my knowledge ends. So let’s turn to the experts in the Heat Island Group at Lawrence Berkeley National Laboratory:

On a typical summer afternoon, a clean white roof that reflects 80% of sunlight will stay about 31°C (55°F) cooler than a gray roof that reflects only 20% of sunlight.

Not bad! Not 31x, but pretty large. Sure, you’ll have some unwanted cooling in the winter when solar heat gain would be preferable, but they go on to say that in practice, those issues tend to be less bad than overheating in the summer. So, painting surfaces white can be a big deal at the level of a house. 

Zooming out, am I surprised that if you paint 0.1% of a city white, some buildings will be cooler but the larger city will remain unchanged? I’d have to say no. But it clarifies how I think about this as a climate intervention. “Painting things white is low-stakes geoengineering” now seems like an overstatement. You’d really have to do a lot of painting to have any measurable effect on the climate (see “Elsewhere” below). But I’m now convinced that white paint is a climate adaptation technology at the individual level. It might not be the most exciting one, but if your goal is to continue the propagation and flourishing of the species as the planet changes around you, then this certainly checks the box.

Is there an opportunity here? I have to think there is, and that it’s at least the size of an uptick in work for roofing contractors. Two others come to mind:

1. Building energy modeling services that make it simpler for builders or homeowners to estimate the impact of white surfaces on energy use, cost, and emissions. 

2. Whiter paints engineered for higher reflectivity and produced cheaply enough that someone would pay to coat their roof with it.

To me, these both seem more like features than entire businesses. But hey, most impactful technologies were not developed at venture-backed unicorn startups.

Elsewhere:

• $40B of venture capital went to climate tech in 2021. Hard to overstate how big a swing this is from just a few years ago.

• The other greenhouse effect: albedo linked to greenhouses in one part of Spain reversed the local warming trend from +0.5 ºC/decade to -0.3 ºC/decade.

• The Abundance Agenda, aka my worldview:

Americans won’t enthusiastically support decarbonization if they believe that it is the path to pain and deprivation. Building a green-energy movement requires convincing people that they can still have big cars and home comforts if we build a clean-energy grid that electrically powers better cars, better houses, and a better life. To win the political battle for a cleaner planet, we need an energy mindset focused on plenty, which says: If we build the right infrastructure today, your future will be awesome.

Thanks for reading!

Please share your thoughts and let me know where I mess up! You can reply directly, leave a comment, or find me below:

• @michaelcampos

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1. Aside from an awareness of climate among the investing public and its effect on stock prices. Also insofar as investment returns are still actually linked to performance of an underlying business or asset. 2021 was a weird one.

2. I suppose it’s possible that wealth managers could also be privately advising their clients to take the blackpilled approach, but they might hesitate to publicize that.

3. This is what happens to your brain when you hang out with mechanical engineers.

4. This is a complex one – there’s been some pushback on the violence claims and I’m not sure where consensus is. If you know, hit me up!

5. Disclosure: we’re invested in a window AC company called Gradient, which aims to do these things.

6. Let’s hold our jokes till the end of class.