Figure 1.Traditional energy communities identified by the 2022 Inflation Reduction Act. Source: National Energy Technology Laboratory Energy Data Exchange as of Nov 1, 2024.7

Going forward, these kinds of risks and opportunities associated with the carbon transition are likely to broaden. Municipalities with high greenhouse gas footprints may face public pressure, regulatory penalties, or incentives aimed at reducing their emissions, whether the emissions are:

Emissions-related penalties and incentives could impact local businesses' operating costs and the costs of living for residents - as well as potentially shift investor perceptions of risk, and raise the cost of borrowing for some municipal governments. These added costs could in turn affect the financial health of neighborhoods, towns, cities, and states. Ultimately, many of the country's 'highest-emissions communities' communities may become the 'traditional energy communities' of the future.

For individual communities, the risks and opportunities associated with the transition to a lower-carbon economy translate into risks and opportunities for municipal bond market investors. However, in the past it has been difficult to assess transition risks systematically in the municipal bond market context.

The challenge of assessing transition risks in the municipal bond market

In most major asset classes, investors rely on sustainability-related reporting from corporations and national governments to assess carbon transition risks. However, U.S. municipalities rarely issue such reports, creating a significant gap in data needed to evaluate carbon transition risks for the municipal bond market.

Over the past year, ICE Climate has bridged this gap by developing emissions estimates for municipalities, broken down by Scope 1, Scope 2, and Scope 3. These estimates are obligor-specific and derive from third-party data using ICE Climate's advanced downscaling and re-aggregation methodologies.

Ultimately, the transition risk metrics include total emissions, emissions per capita, and emissions per dollar of local gross domestic product (GDP). Each measure of emissions is useful in its own way - total emissions represent the bulk emissions footprint of a community, while emissions per capita and per dollar GDP enable comparisons and target-setting across many different securities. ICE Climate provides these emissions estimates for 92% of outstanding municipal debt, as well as for thousands of towns, cities, and school districts that currently carry no debt.

What can these transition risk metrics tell us?

While 'traditional energy communities' - those that have historically been at the forefront of the carbon transition - are geographically concentrated in certain areas, high-emissions communities are distributed across the country.