Nils Kok

The Capital Vintage Paradox and Ceres panel on "ESG & Real Estate"

Finally some "new" research from the Kahn-Kok front: we've revised our paper on commercial building energy consumption, now titled "Energy Consumption and the Durable Building Stock: The Capital Vintage Paradox." Not sure whether that's exciting enough for the non-academic reader, so just in case you do not have the time to go through the academic prosae, I'll summarize the paper in a couple of sentences.

Over the past three decades, building codes have been implemented and sharpened for residential and commercial buildings. For the former, that has led to reduced energy consumption in more recently constructed dwellings (as documented by Matt Kotchen for homes in Florida, and by Matt Kahn for homes in California). However, in commercial buildings, something seems to go wrong: the "steady state" energy consumption of buildings constructed after 1970 has been increasing ever since!

Controling for occupancy and building characteristics (including size and amenities), buildings constructed between '90-'00 consume 17 percent more electricity, and buildings constructed since '00 consume 12 percent more (both compared to 1960s levels). Importantly, we also find that the response of buildings to "temperature shocks" (or, hot days, in plain language) is much steeper for newer buildings, which has implications for managing peak load demand (an often ignored, but increasingly important factor in building energy efficiency).

So, what's going on? It seems like occupants in newer building choose to be more comfortable when the "price" of comfort is lower (i.e., when the energy efficiency of a building is higher), also known as the rebound effect (see previous post). More advanced technology allows people to be comfortable at any moment, at any place in the building. The ability to separately cool spaces in the building is great, but that flexibility has drawbacks for energy consumption (a new start-up called "Building Robotics," gives occupants an app to adjust the temperature at their workstation). Of course, newer buildings might also have more appliances.

It's important to think about these findings in the light of policy discussions on energy consumption in buildings. The results imply that peak demand of the commercial building sector will increase as new buildings are added, and the existing stock is improved through retrofits. Managing peak loads is an important aspect of policies that aim to reduce energy consumption, especially in areas with a (pre)historical grid (think: most of the US). Key takeaway: there is an exacerbated externality associated with the rising quality of the durable building stock. 

Sustainability and Real Estate Investments (Ceres)

At the recent annual conference of Ceres, a forum of investors and corporates to discuss sustainability issues (Ceres founded GRI, within others), I moderated a nice panel on how institutional investors (can) integrate sustainability into their real estate decisions. The line-up was pretty amazing, with Laurie Weir of CalPERS, Jennifer Young of the Townsend Group, Mike Ibarra of Landon Butler & Co (responsible for the MEPT fund), and Darryl Neate of Ofxord Properties (OMERS). Here's the full slide deck, very interesting to see the different views:

 

 

 

Some interesting new studies on building energy efficiency

My fellow research friends have been busy over the last couple of months, which has lead to some interesting new studies that have recently come out, both from academia and from the industry.

Rebound Effect is Overplayed (Nature)

A short but sweet two-pager about the "rebound effect" -- the idea that consumers will drive their car or use their washing machine more frequently, if these items are more efficient. The rebound effect can offset part of the savings achieved through energy efficiency, and this behavioral effect is typically not included in engineering models of energy savings (and payback/return predictions). Kotchen et al. do a good job of putting the big claims on large rebound effects into perspective. Important work for policy makers.

DTZ European Sustainability Guide (April 2013)

You won't find many references to industry reports, but...DTZ has just published a report on sustainability trends in Europe. Quite surprisingly, they take a factual approach by listing, for example, energy prices per country (very informative), and the report has an extensive appendix that describes energy efficiency initiatives in each EU member state in more details. Worth a read.

Home Energy Efficiency and Mortgage Risks (IMT/University of North Carolina) (* see end of article)

This is a very interesting paper-turned-into-industry-report on impact of home energy efficiency on the likelihood of mortgage delinquency (that is, no mortgage payments for 90 days, which is almost similar to default). The headline finding states that "loans on Energy Star homes are 32 percent less likely to go into default." If true, that is important news for the financing of energy efficiency retrofits and improvements: banks could lend a bit more (a higher LTV) to homeowners of more efficient homes, or allow for higher LTVs if owners make energy efficiency improvements. At this point, banks do not explicityly incorporate the energy efficiency of a home into the underwriting of a loan/mortgage, which prevents many homeowners from investing into improving their home, and thus reducing their energy bill. Also, it would be a very strong market signal if less efficient homes would have a harder time to obtain financing. Now for the sidenote: I find the "32 percent" number very high. To me, this clearly signals that the model used in the paper does not appropriately control for other factors that influence mortgage default, most importantly, the household characteristics. If (prospective) homeowners, with good jobs, sort into more efficient homes, that will influence the default rate. The study would attribute this to the efficiency of the home, whereas the quality of the borrower is the real cause of this decrease. Academics would call this a "suggestion for further research." And that is what it is. This paper is very good start to move an industry that has thus far been extremely myopic. Last week, I was at a meeting with some of the largest banks in the Netherlands (Rabobank, SNS, ING), to talk about residential energy efficiency. Of course, everybody wanted to talk about fancy retrofit financing possibilities, including revolving funds, etc. But when I asked the question whether the banks actually look at the EU energy label when making decision on home mortgages, the room went very quiet... 

 An Economic Perspective on Building Labeling Policies (Stavins/Analysis Group) (* see end of article)

This paper provides a well-written, detailed review on the "why" and "how" of energy labels. It is not necessarily an academic paper, but rather an excellent summary for policy makers that are in the process of mandating/designing energy labeling policies. I like this graph:

But I don't like the subjective tone of the report. There is, currently, no empirical evidence on how energy labels "nudge" corporate tenants and private homeowners/tenants into reducing energy consumption. (One 10-year old small-sample study from Denmark is not sufficient for bold claims. And since when do economists trust "...analyses [that] tend to draw these conclusions based on interviews…"?)

So, why start the report with the statement that "...there is currently no real evidence that these mandatory programs lead to any changes whatsoever in energy use"? Seems like a non-results turned into a result. I rather talk about results: labels provide information on the steady state (Europe) or in-use (US) energy performance of buildings and dwelling, and it has been shown that this leads to value differences. Yes, there are shortcomings to these kinds of analyses, as we cannot control for "unobservables," but at least the studies are based on large samples of market data, not interviews with clueless households (as the Economist posits this week "economists [should] reassess some articles of faith" which "might also make them more sceptical of “revealed preference”, the idea that a person’s valuation of different options can be deduced from his actions.")

The authors mention that "If building labeling affects property purchase and rental decisions, there will be no immediate impact on the energy efficiency of the building stock; labels may alter the choice among properties, but does not affect the energy efficiency of the overall building stock because it does not directly affect energy use and investment decisions."

 These price effects provide indirect effects on energy consumption, indeed. They do not directly decrease consumption, or increase efficiency of homes. But these market effetcs should lead developers to build better, more efficient homes. It should also provide confidence to homeowners and investors that investments in the energy efficiency of their mansion will not just lead to lower utility bills, but these investments will also be capitalized into the transaction price at the time of sale (so decisions can be made based on returns rather than payback period). Another important point: if energy labels affect the choice for commercial and residential properties, price differences will emerge. Some call this a green premium, some a brown discount, but hat's just different sides of the same coin. If the value of inefficient properties becomes too low, these properties will be demolished and new real estate will be developed. (Of course, there is more at play than just the efficiency of the dwelling.)

Other "main" conclusions in the report are, for example, that "Building labeling does not distinguish between occupant energy use patterns and a building’s inherent energy efficiency, unless special measures are taken to control for occupant energy use." Great point. That's why a European-style energy performance certificate (EPC), which is based on modeled energy performance, should be accompanied by a US-style Energy Star rating. Importantly, the latter does control for the most important determinants of commercial building energy consumption: occupancy (in percentage of floor area, in # of people, in opening hours), building size, and weather. (Note to the authors: the EPA publishes its methodology in detail on their website.)

And yes, "Because each building is unique, development of accurate building label information requires very careful property-specific assessments, which are costly to create and verify." This sounds like the real estate lobby. (See my point about sponsored research below.) Yes, assessments cost money, but like a bank needs a valuation when providing a loan, a tenant, consumer or investors has similar needs for appropriate information at the time of lease or purchase. The art of benchmarking has to be perfected over time, but already, the EPA does a pretty good job at measuring the energy performance of buildings, for less than $1,000. 

The paper ends with some useful recommendations, for example the inclusion of utility bills in property transactions (but, well, that would benefit from some standardization as well), property inspections by potential buyers (great, ever heard a realtor talking about leaking windows and missing rooftop insulation?), and voluntary labels (that's where we are right now). And then, the overall recommendation: "Our assessment of mandatory building labeling policies has identified many limitations to these policies that merit full consideration before proceeding with new programs." 

Great. What a vision.

Building energy labels are not perfect. In fact, they are far from perfect. The European EPCs suffer from many shortcomings. But they represent an important step in providing transparency into an otherwise notoriously intransparent market. There is no doubt that buildings are increasingly the focus of global policies related to energy use and climate change. These policies will consist of a mix of prescriptive building codes (Europe wants zero net energy by 2020), demand side management (for example, incentives provided by utilities), and attempts to influence investment behavior. Policies will also include measures that will be painful, such as restrictions on transactions of inefficient buildings (the UK is taking the lead here: with effect from April 1 2018 it will be unlawful to let buildings with an EPC rating of F or G), or mandatory audits and improvements for commercial building owners.

Of course, this would all be unnecessary if the externality effects of energy consumption were appropriately priced (reflecting the social cost of energy generation). But, well, rather than going down that politically unpalatable road, national and state governments like indirect, winding paths much better. Even if they're unsure about the challenges ahead.

* a little note of caution: even though some of these studies are "academic," they've been funded by industry associations or lobby groups. External funding in academia is not new (in fact, it is increasingly common with shrinking government budgets, and I'm an avid user of such funds), but I'm always a little weary when a brand promotes its products with "independent research." 

GRESB Launches 2013 Survey on Sustainability Performance in Real Estate Sector

The Global Real Estate Sustainability Benchmark (GRESB), which measures the sustainability performance of the global real estate investment industry, today announced that its 2013 Survey is open for responses. In 2012 the data gathered by GRESB covered more than 450 companies and funds. This information is used by some of the industry’s largest institutional investors, investment managers and property companies to analyze their sustainability practices. 

Each year, in cooperation with its membership, GRESB undertakes an annual survey focused on the sustainability performance of real estate investments, measured at the portfolio level. The approximately 50 questions that comprise the Survey are based on input from investors about what matters to them when examining sustainability issues. The purpose of the Survey is to evaluate real estate companies and funds’ performance and to inform investors of the success and progress of initiatives to improve their sustainability. GRESB’s global membership includes more than 40 institutional real estate investors and investment managers, plus all major real estate industry associations and a large number of consultants and product vendors.

This is the fourth year that GRESB has undertaken its Survey. Over that time, the response to the Survey has increased substantially, from 200 companies and funds in 2009, to more than 450 in 2012. GRESB covers seven unique sustainability aspects, which address not only environmental issues but also approaches to management, policy and disclosure, building certifications, sustainability risk management and stakeholder engagement.

Nils Kok, GRESB founder and Executive Director said, “GRESB is fully engaged with the real estate investment community. Our investor members have made clear that they see sustainability as being about more than environmental factors. They consider the whole spectrum and the result is that the 2013 GRESB Survey is, as in previous years, a comprehensive analysis of sustainability issues.”

Participants complete the Survey online via GRESB’s online portal, which remains open from 1 April until 1 July 2013. GRESB will then spend the summer analysing all the data received. The 2013 Survey results will be published in the first week of September. In addition to the publicly available annual GRESB Report, GRESB Members and Survey participants receive individual results that detail their respective funds’ and firms’ performance.

“The past few years have been a challenging environment for the real estate sector. However, at the heart of GRESB’s philosophy is the alignment of sustainability measures with financial performance. Our aim is to create a tool that can be used globally by investors and managers of real estate investments both to lower operating costs but also to better manage their investments and portfolios in the face of higher and more volatile energy prices, stricter legislation to combat climate change and require increased energy efficiency and the changing preferences of corporate tenants” said Sander Paul van Tongeren, Senior Sustainability Specialist at APG Asset Management, which is one of the organizations that co-founded the GRESB in 2009.

The Art of (Sustainability) Benchmarking

Silence on this blog typically means that things are a little hectic. Which they were, especially at the beginning of the year. Together with the now-expanded GRESB team (we just hired a new Head of Sustainability), housed in a spanking new office, I've worked hard to prepare the 2013 GRESB Survey. The online Portal is revamped (no more IT problems, I hope), the Survey has been optimized and further verification elements have been added, and all will be online on April 1 (until July 1). We expect an even higher number of property companies and funds disclosing their sustainability efforts this year, with some large investors joining the ranks (watch the GRESB website for some exciting announcements during the next weeks).

There is great traction in the commercial property market for energy efficiency and sustainability benchmarking. That leads to more players coming on the scene, which confuses the market. LEED, BREEAM, Energy Star, EPCs, DECs, NABERS, Green Star. Lots of labels, lots of stars. And as if there was not enough, there are also asset-level benchmarking initiatives by non-profits, such as the Green Rating Alliance and Greenprint (recently gobbled up by ever-hungry ULI), and for-profits, such as the International Sustainability Alliance. There are certainly differences between the three: GRA (a GRESB partner) also does physical building inspections, ISA is linked to BREEAM In-Use, and Greenprint has some footprint outside of the U.S. And there is are differences with some of the existing "ratings," such as Energy Star. Matthew Tippett of Upstream (a JLL outfit) in London has done a nice job of mapping the field in a couple of sheets, presented recently at the 40 Percent Symposium. Credits to him, but here is an overview:

As all of this takes place in the free market, technology start-ups start to smell profits as well. Being in the heart of the Bay Area, I often have the great privilege of listening to pitches. Some of those companies are not around very long, and I think we'll see more of a shaeout soon. But...there are some very promising companies. This week I was at Lucid, previously known for their building dashboard (showing how much a building consumes, renewable energy generated, etc). They've now transformed themselves into an online dashboard, "BuildingOS," with easy ways to collect building data directly from utilties. As soon as they have enough data, it's basically the perfect asset-level benchmark for real estate investment managers. Check this, quite funny teaser:

 

 Last month also brought the news that BuildingIQ, the company that provides unique building optimization software, raised $9mln from a consortium of VCs and big ESCOs. Check the press release. I might be biased, but I'm bullish on "smart buildings," that are not just one-way connected to the grid, but can also respond to signals. Very important, given the peak load that we'll increasingly have to deal with. And yes, I'm convinced that technology can do a better job than building managers, as much as I like human capital.

Ruin Porn

No, this title is not meant to increase the number of visits to nilskok.com (although I'll closely watch the impact on page views..). It's about a city tour of Detroit. After a great day in Ann Arbor (Michigan), where I gave a talk and met some bright students, and ever brighter faculty (check out Ryan Kellog's work on, and check into Dave Albouy's website), I had the pleasure of exploring Detroit with Andy Hoffmann (an environmental scholar with a background in contstruction, read his book !). Quick note about the Erb Institute at UMich: they offer a dual degree MBA from the Ross School of Business/Msc from the School of Natural Resources & Environment. The Ross School is a LEED Silver building and feels like a cool place. (Do students go there because of the LEED label? Well, ...). I gave an overview talk of 5-6 papers: all you ever wanted to know about the economics of green building. And more:

 

So, Detroit. And ruin porn. What a city. Losing 25% of population between 2000-2010 (more than the drop experienced in the 1970s!), and losing many more residents before, the city is a mess (Ed Glaeser wrote a nice piece on "the folly of the light rail" in the Wall Street Journal). Andy showed me some impressive/ depressing/ interesting places:

We also went to an opening of a Habitat for Humanity home. Thomas, a single father with a cute little son, got his own home, after living in a single-family home with 9 (!) people for the last couple of years. He put "sweat equity" in his home, and will get a no-interest loan to pay for the place. Habitat understands that more efficient homes lead to lower cost: this home was equipped with Energy Star appliances, additional insulation, double-glazed windows, an instant-boiler for hot water and water-saving faucets. The result: an expected utility bill of $100 a month. In cold Detroit, that's quite a feat. (Many poor families pay up to $600 a month for heating their home...!!). Vincent, the executive director of Habitat Detroit mentioned that he would love to get LEED certification for his homes. It's just too expensive.... My recommendation would be for the USGBC to provide free certification for Habitat Homes (as long as they fulfill the requirements, that is).

Apart from the energy savings, the home opening opened my eyes for the overwhelmingly strong social side of providing these homes: it leads to neighbourhood gentrification and will give Thomas' son a much better prospect for a succesful future. Seeing the whole family and the happy homeowner was very moving. I should start building homes, rather than talking about it... Of course, we drove around and I acted as a tourist, making pictures of the Grand Theater that now acts as a parking garage, the old Packard factory (miles and miles of abandoned property), and the homes that are falling apart.

It would be good for some European mayors to go Detroit -- rather than building homes, offices and shopping centers to attract more people, adaptation is the only way to deal with a decreasing population. Taking stock out of the market rather than adding it. For example, the area around Maastricht, in the south of the Netherlands, is shrinking with 1% per year. Will it become another Detroit?

 

Energy Consumption and the Durable Building Stock: The Capital Vintage Paradox

with Matthew Kahn and John M. Quigley

Download

The durable building stock plays a key role in determining the urban sustainability of a metropolitan area. While the residential sector has been the primary focus of energy policies, commercial buildings are now responsible for most of the durable building stock’s total electricity consumption. This paper exploits a unique panel of commercial buildings to document that electricity consumption and building quality are complements, not substitutes. Technological progress may reduce the energy demand from heating, cooling and ventilation, but the behavioral response of building tenants and the large-scale adoption of appliances more than offset these savings, leading to increases in energy consumption in more recently constructed, more efficient structures. This implies that there is an exacerbated externality associated with the rising quality of the durable building stock.

Matt Kahn's Lecture Series on Environmental Economics

Online teaching is taking a flight, and Matt Kahn (UCLA), who is leading the way in environmental economics, has just launched a lecture series. This is a great source of (free) knowledge, and knowing Matt, it will be fun!!

 

 

Update on sustainability and finance

This is an exciting week for sustainability and finance:

- The Annual NAREIT Conference (convening all US listed property companies and their share/stakeholders) is taking place in San Diego, and today Steve Wechsler, the NAREIT CEO, handed out the "Leader in the Light" Awards to 11 REITs invested different property types. The Leader in the Light Award is based for 70% on the GRESB scores of REITs, and for 30% on an additional supplement. With the help of judges from Cornell/USGBC/DOE/RealFoundations, we objectively ranked the 36 companies that submitted data. The press release is here.

- Also today, NAREIT/FTSE/USGBC announced the launch of a green property index, based on the methodology first used in my academic paper "Portfolio Greenness and the Financial Performance of REITs". In the Index, those REITs with the highest fraction of green-labeled properties (Energy Star and LEED) will receive the highest weight, providing investors with the opportunity to gain exposure to those REITs that are (presumably) better future-proofed, have stronger cash-flows, and face a lower risk of obsolescence. More details in this press release.

During yesterday's International Day @Greenbuild, we had a great panel of institutional investors, representing about $164 billion (!!) in assets under management. My friends from Tishman Speyer, Prudential Real Estate, Oxford Properties (an OMERS company) and APG Asset Management did a great job informing the audience of more than 400 delegates on how they integrate sustainability in their investment portfolios. Livestream will follow soon! And here are the slides of the session I did with Fannie Mae and Wells Fargo:

Greenbuild 2012 - Finance Session from nilskok

 

Out of Africa

Every man needs his rest. And so I recently found myself in Africa, trying to forget about energy efficiency. But even on holiday, that’s more difficult than it seems: to my excitement, nearly every house in Mauritius was equipped with good-old solar geysers. And solar PV is rapidly making inroads, with current payback periods at just 8 years. Some other observations: the island would benefit from a recycling system, buses that drive on natural gas rather than diesel, and there is a nascent market for eco-tourism (swimming with dolphins was certainly the highlight of the trip). While reading my way through Richard Branson’s latest “novel,” Screw Business As Usual (which is not nearly as entertaining as his first book, “Screw It, Let’s Do It,” but certainly a worthy description of business that have successfully embedded environmental and social sustainability into their business operations), my thoughts would wander back to the beginning of my trip to what the Economist once dubbed “The Lost Continent” (well, sometimes even The Economist can be wrong). After the Energy & Cities conference in Boston (see previous blog post) I headed to Cape Town for the annual convention of the Green Building Council of South Africa. 20hrs of travel later I discovered that my bag had not been able to keep up with me, but I managed convincing my cab driver to ask his wife to wash my sweaty shirt, and the next morning he indeed showed up at 8am... Unshaven, but freshly smelling, I first enjoyed the talk of Jerry Yudelson, who gave a great speech about the actual performance of green buildings (his talk was fittingly titled “If It Does Not Perform, It Is Not Green”). I then started my presentation with some amazing numbers, glanced from “The Rands and Sense of Green Building” (send me a note for a free copy): the average energy price increases in South Africa over the past four years. 2008: 27.5%, 2009: 31.3%, 2010: 24.8%, 2011: 25.8% (inflation was about 5% in the last two years, 6% and 10% in the two years before). As a matter of fact, ESKOM, the national utility, had just announced the expected price increases for the next three years: some 16%/year. Those numbers resonate with building owners and occupants – energy is rapidly becoming a significant operational burden. Needless to say, my meetings with the Government Employees Pension Fund (GEPF), Old Mutual and some other major real estate investors, discussing the relevance of sustainability for their portfolios, went quite well. There is no doubt that energy efficiency is squarely on their minds. Unrelated to sustainability, but when I left South Africa after nearly a week in Cape Town and Joburg, I felt confused. This time I mainly saw the “rich” areas. Eating in Cape Town’s great restaurants, taking the impressively efficient Gaudtrain into Joburg, visiting buildings that can vie with the latest developments in the US or Europe, one gets an impression of a very Western, well-developed, equal society. But walking on the streets, staying in the gated communities and seeing the endless slums (subsidized solar geysers abound – apparently some rogue equipment installers offer poor residents cash money for the geysers. Being needy in the short term, some fall for this trap…), the extreme differences in wealth become immediately apparent. You can feel the clear black-white divide, 20 years after the Apartheid ended. Fifty percent youth employment suffocates a generation of talent. And you wonder where this society will go – the Economist wondered about that recently as well.

Green building in theory

It’s been nearly half a year since my colleague John Quigley passed away, but we revived his many scientific contributions in a recent conference at the Lincoln Land Institute – Present and Retrospect: The Work of John M. Quigley. The first day of the conference was on “Energy Efficiency and Cities,” and many great papers were presented:

-       Dwight Jaffee presented a paper on Financing Mechanisms for Energy-Efficient Retrofits. (This is part of an on-going project with LBNL, funded by DOE);

-       Erin Mansur had a great paper on the productivity effects of electricity shortages, using data from China (“Sandy” recently made clear how severe the impacts of electricity shortages can be…)

-       A must-read for a better understanding of the effects of urbanization and GDP growth in developing countries on energy demand was presented by Catherine Wolfram. According to the paper, assumptions by the IEA underestimate increases in energy demand from GDP growth, as the income-elasticity of demand for household appliances (fridges, ACs, etc) is different for households that go from poor to less poor, than for households that go from middle to upper-class (“pro poor growth”).

-       Hunt Allcott presented a follow-up paper using the now well-known O-Power database. The big question that many economists have is whether “nudges” in the form of information provision (how much energy do you consume relative to your neighbors) have a persistent effect. The answer according to Hunt is: yes. Households seem to learn from repeated nudges – consumption drifts upwards a little while after each nudge, but after a series of nudges, consumption remains significantly lower, even when the provision of information stops. Small caveat: these effects are REAL small. So, this is really the last bit of efficiency that can be scraped out of households…

-       Not building-related, but important for the general impact of cities is the response of consumers to gasoline price changes. Ken Gillingham presented a very impressive paper using incredible microdata on miles driven by consumers in combination with information on price shocks in petrol prices.

-       I presented my paper on price effects of energy labels in residential dwellings. The discussants had some good feedback to further refine the paper, so Matt and I have work to do.

 

 The next day was devoted to general urban economics. No papers yet, but stay put for a special issue of Regional Science and Urban Economics, fully devoted to these papers, in honor of John.