Rethinking what is meant by a portfolio approach
Recently, Jen Stebbing came on my podcast to speak about her main take-aways for forest and climate and New York Climate Week. This conversation inspired me to read one of the resources she recommended, the Forest Finance Roadmap for Action, a publication by UNEP and the Forest & Climate Leaders’ Partnership.
As I started to dig into the preamble – my siloed thinking came to the front of my awareness. Before I opened the roadmap, my initial thought was that it would be applied to forests everywhere. One paragraph in, my categorical mind said – we’re going to put this into the anti-deforestation in the tropics campaign box. Then I stepped back and recognized what I was doing, and I think, what all of us do. We take our own position on forest finance – based on our carve out of the piece of forest finance we fit into. We are quick to jump on the this isn’t relevant to me train, or the my work in forests is more important/ impactful/ investable than this train.
This article is my synthesis of the roadmap (not ChatGPT’s!), where I aim to extract some wider learnings for forest finance as a whole. Before you stop and hop on one of those trains, I instead want you to think:
How can I learn from this?
How can my work benefit from this?
What more can I, or my organization do to lift forest finance as a whole?
The Roadmap Synthesized for Wider Global Forest Finance Take-aways
Let’s first consider forest finance needs. Starting at the top of the funnel and working our way down:
Or another way of putting it – forest finance requires about 4% of the world’s climate finance and 30-43% of the world’s biodiversity finance.
The report draws on 6 Priority Solutions to bridge the forest finance gap under the captions of innovative financial mechanisms, mobilizing private investment and aligning fiscal policies. Some of these are very specific to tropical forest jurisdictions and forest conservation needs, so I distilled these down to four to suit the broader forest finance context.
- Increase demand for high-integrity forest carbon credits
- Accelerate private investment in the forest bioeconomy
- Align value chain finance with sustainability and corporate disclosure of forest related risks and opportunities
- Incentivize sustainable forest management practices through fiscal tools
The solutions are essentially financial mechanisms driven largely by markets and governments, while the report then speaks to a portfolio of options of how capital can be directed to meet different objectives. These can be distilled into four overarching forest investment objectives:
- Enabling capital to flow into forests
- Protection of intact forests
- Restoration of degraded forests
- Sustainable forest management for forest products
There is a good figure below summarizing capital sources, instruments and the objectives of forest finance.
However, the current conundrum remains:
The enabling environment is weakest where forest finance is most needed. What results is that most forest finance is channelled to where the ROI is proven and risks are low. What follows is crowding in mature forest finance jurisdictions. Competition makes the cost of entry high, and this weakens overall financial return potential. Currently there is insufficient capital taking the much-needed role of securing the enabling environment in emerging market forest finance jurisdictions. There’s a lot of consensus that this funding is needed, but no one is stepping up to the plate to provide the capital.
Forest protection largely remains an existential problem and not a direct economic problem. For example: we need the cooling effect of intact forests, its contributions to the water cycle and biodiversity – but those with a purse are either looking for a ROI from forest finance, for which there isn’t a clear one with conservation, OR a quantifiable risk reduction to their business (also for which there isn’t a clear or immediate one). It is here, where we must work to mobilize donor and public funds, strengthen the data that shows the link between investment portfolio or supply chain success and forest intactness and build the markets to allow capital to flow from said investment portfolios or forest-dependent businesses to forest protection.
For the objectives of forest restoration, carbon markets are becoming a viable option. Demand is there, but there is a mammoth capital gap in early-stage funding (drawing parallels to enabling environment funding), where the demand-side wants the delivered product (carbon credits), but they don’t want to pay for its development.
As sustainable forest management for the production of forest products fits into traditional commodities, capital flows more easily. The challenge is if the cost of production exceeds the value of the wood products (see above example of over-crowded markets). We need to expand the working forest land base.
The ultimate question is then – how can we mobilize more capital to emerging market forest jurisdictions, expand the land-base of SFM for production objectives, while filling the capital gaps in forest restoration and realizing the existential value of forests in monetary terms? How can your organization facilitate this?
Broadening your Concept of a Portfolio Approach
As investment managers, you already take a portfolio approach. You may have a Fund that seeks or manages a portfolio of assets according to a pre-determined strategy, or you may be building or managing a portfolio of assets on behalf of an investor client. You probably have portfolios of portfolios. But have you given much thought to if and how your portfolio is spread across protection, production and restoration objectives? What about the sources of funding that capitalize your portfolio, the instruments?
If you wish to move beyond traditional timberland and build an impact forestry portfolio, I encourage you to review this broader definition of portfolio. I appreciate that every investor or investment manager has its own mandated requirements, but again – instead of thinking, this won’t work for me, I want you to consider how can this work for me, and how can my organization more broadly contribute to filling the forest finance gap. If you’d like a sparring partner to talk through some ideas, please reach out. We need more ambition and less siloed thinking and I’m happy to navigate what that looks like for you.
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