Perspectives: Heat pumps, plastic reduction, and decarbonizing steel

With almost half of global energy demand stemming from heating and cooling,¹ more efficient HVAC solutions will be a crucial enabler of decarbonization. Heat pumps could play a viable role in this regard, as they have the potential to reduce global CO₂ emissions by at least 500 million tons through 2030. A heat pump can replace both an AC unit and heater in one machine. The heat pump’s efficiency benefits also bode well for consumers through lower energy bills.

According to the National Renewable Energy Laboratory, 62–95% of households would have a lower energy bill then they do currently if they switched from their heating and cooling system to using a heat pump.² The IEA stated that heat pumps can be 3–5x more efficient when compared to gas boilers.³ Traditional heating sources burn fossil fuels to produce heat while heat pumps transfer air, similar to a refrigerator. The transfer of cold or warm air will depend on the season, location and temperature needed.

There has been fluctuating sales data for heat pumps in recent years, but we see compelling reasons for demand to increase going forward. In 2022, heat pump sales grew by 11%, following 2021 which was another year that saw over 10% growth. Although 2023 sales growth was negative, we conclude that this is due to the overall HVAC industry where gas furnaces had an even steeper decline.⁴ For a few reasons, heat pump sales growth is looking optimistic.

While barriers do exist for installation such as shortage of skilled labor, high installation costs, and supply constraints, governments around the world are incentivizing installation through tax credits, rebates, and grants. Following the Inflation Reduction Act in the United States, households will be able to claim a tax credit of 30% for the costs of installation and up to USD 2,000 for support to an electric system needed to make a home able to have a heat pump.⁵ In the United Kingdom, the government is offering GBP 7,500 to households looking to install a heat pump.⁶

Government regulations will likely incentivize individuals to purchase heat pumps, and we think this could lead to growing demand for the overall heat pump sector. The standard of living across the world is increasing and more homes are installing AC units. As heat pumps become more widely known, we believe they will become the popular choice for heating and cooling. Whether replacing old heating and cooling units or when constructing a building, a heat pump could increase resale value due to the efficiency and savings.

Another reason we believe demand for heat pumps will increase is the continuous rise of global temperatures and the attendant increased need for AC units. During the summer of 2023, countries across Europe experienced extreme heat waves. The UK hit record highs with its eighth-warmest summer in over 125 years, averaging 1.46 degrees Fahrenheit (0.8 degrees Celsius) warmer than the average.⁷ The rising temperatures have put many Europeans in need of a solution as many homes and businesses don’t have any form of a cooling unit.

Heat pumps would play a key role in the world's transition to net zero by 2050. Heat pumps would need to be the main source of heating in 20% of all buildings by 2030, yet as of March 2023, only 10% of buildings were using heat pumps.

To learn more about designing a home to be more efficient, please see our recent CIO publication, Housing and its path forward.

Investment takeaways:

• As global temperatures continue to rise, an energy-efficient heating and cooling system will be essential to our path towards net zero.
• Having heat pumps installed into buildings will likely increase real estate value and lead to stronger property investment returns, and we expect governments to continue to push for stronger HVAC regulations and to further incentivize the installation of heat pumps.
• Over time, we expect our longer-term themes “Energy efficiency” and “Circular economy” to become more embedded in housing.

Recent research from the University of New Mexico found the presence of microplastics in human placentas, highlighting a pervasive issue that extends to nearly all surfaces on Earth, including human feces. Studies indicate that infants and young children may have up to ten times the concentration of microplastics in their feces compared to adults. This discovery underscores a potentially unprecedented level of exposure and raises significant concerns about the implications for human health and development, which remain largely unknown.

In response to the growing plastic crisis, Earth Day 2024 adopted the theme "Planet vs. Plastics," advocating for a 60% reduction in plastic usage by 2040. However, the goal appears unrealistic. The 4th session of the Intergovernmental Negotiation Committee, convened by the UN to forge a global treaty on plastic reduction, concluded on April 29 with limited progress. The topic of limited plastic production was dropped from the agenda following opposition from major countries including the US, China, India, and Saudi Arabia, with discussions focusing on enhancing plastic recycling as a step towards circularity. The committee aims to finalize a legally binding treaty in its upcoming meeting in South Korea in November.

Despite global efforts to mitigate plastic consumption, demand continues to rise, fueled by economic growth, especially in emerging markets. The OECD's Global Plastics 2060 Outlook predicts a 60% increase in plastic usage by 2060, driven by GDP growth and without significant policy or technological interventions (Figure 2).

However, the future of plastic is not solely dependent on virgin materials. As highlighted in our “Circular economy” and “The blue economy” longer-term investment themes, advancements in recycling technologies and increased investment in waste collection are expected to shift the balance towards recycled plastics over time. Companies are aiming to increase the use of recycled PET to lessen reliance on virgin materials derived from fossil fuels, but the lack of supply of rPET is contributing to a price premium. Although scaling these technologies requires substantial initial investment, they represent a growing opportunity.

Bioplastics, derived from natural materials such as soy, seaweed, and woodchips, offer a promising alternative, currently accounting for 1-2% of global plastic demand. Despite their potential, bioplastics face challenges in scalability in the short to medium term. Nonetheless, these innovations are essential for reducing our reliance on traditional plastics and mitigating their environmental impact.

Investment takeaways:

• Demand for plastic is expected to grow in line with GDP over the coming decades, even as plastic pollution is on the rise with risks to human and planetary health. In the near term, the premium price of rPET relative to virgin PET may benefit the recycling companies with supply.
• The UN meeting on curbing plastic consumption concluded with nations focusing on plastic recycling and circularity; intergovernmental work will continue leading up to the final meeting in November 2024.
• We see opportunities in advanced recycling as waste management and collection, and recommend that investors consider exposure through our longer-term investment themes of “The circular economy” and “The blue economy.”

This piece is part of our mini-series on 'hard-to-abate' sectors. Read about aviation, shipping and cement for more.

Steel plays a pivotal role in modern infrastructure and industrial development, with its production processes being energy-intensive and accounting for approximately 8% of global energy-related carbon emissions. With projections indicating a 30% increase in steel demand by 2050, the industry faces the challenge of balancing this growth with the need for decarbonization.

Steel is produced through two methods primarily: blast furnace-basic oxygen furnace (BF-BOF), which is the most common and significantly contributes to CO2 emissions; and the electric arc furnace (EAF) route, which uses recycled scrap steel and generally results in lower emissions.

To align with decarbonization objectives, the steel industry is targeting net-zero emissions by 2050, which would require a 90% reduction of emissions from 2020 levels by 2050, according to the International Energy Agency. Companies accounting for almost 30% of global steel production have already set a 2050 net-zero target, with some being part of organizations such as the Net-Zero Steel Initiative. On the demand side, bilateral off-take agreements and initiatives like SteelZero contribute to signaling demand for green steel.

In terms of near-term strategies, the industry can achieve emission reductions through energy efficiency improvements and increased scrap collection. However, these measures have a limited impact on overall emissions. More significant reductions are possible through the development and implementation of hydrogen-based direct reduced iron-electric arc furnace (H-DRI-EAF) processes and carbon capture, utilization, and storage (CCUS) technologies. H-DRI-EAF, which uses hydrogen as a reducing agent, offers a pathway to lower carbon steel production, though the WEF estimates a 35–70% premium compared to conventional technology, which is a challenge from a cost and scalability perspective. Similarly, CCUS technologies have the potential to capture CO2 emissions, but their commercial viability and scalability are constrained by the need for substantial investment in infrastructure and technology development.

The transition towards sustainable steel production would require investments ranging between $1.8-2.6 trillion, according to a study by Accenture. Investors should consider regional differences in production technologies and policies. For example, the US, where EAF technology is more widespread and with incentives provided by the Inflation Reduction Act, is positioned as a relative leader in sustainable steel production. Europe, which predominantly uses BF-BOF plants, faces significant capital expenditures to transition away from coal use. The EU Green Deal and the Carbon Border Adjustment Mechanism are designed to incentivize decarbonization efforts. Indeed, the EU Emissions Trading Scheme anticipates phasing out free carbon alliances for all industrial sectors, including steel, by 2034, thus increasing the cost of inaction (Figure 4).

In emerging markets, and particularly in China where 50% of global steel is produced, the dominance of BF-BOF technology, the relatively newer age of steel-related infrastructure, and the fossil-fuel dependent grid make the path of transition more challenging.

Investment takeaways:

• Steel makes up 8% of global emissions and is part of the set of ‘hard-to-abate' sectors which would require significant investment to decarbonize.
• While multiple steel producers have committed to net-zero objectives, opportunities in the near term are limited, and investors should consider relative leaders from a regional perspective.
• For investors, the decarbonization of steel offers opportunities in areas such as green and transition bonds, renewable energy, and the infrastructure necessary for decarbonization, including green hydrogen.
• These ideas align with broader investment themes, including the “Circular economy,” “Energy efficiency,” and “Clean air and carbon reduction.”

1. International Renewable Energy Agency. “Power to heat and cooling: Status.”

2. National Renewable Energy Laboratory. “Benefits of Heat Pumps Detailed in New NREL Report,” 2024.

3. International Energy Agency (IEA). “The Future of Heat Pumps,” December 2022.

4. International Energy Agency (IEA). “Global Heat Pump Sales Continue Double-Digit Growth,” 2023.

5. Mitsubishi Electric. “Inflation Reduction Act 25C Tax Credit Qualified Product List,” April 2024.

6. Bloomberg. “Heat Pumps Are a Climate-Friendly Home Energy Fix,” October 2023.

7. Reuters. “UK had eighth warmest summer on record – Met Office,” September 2023.