Geopolitical risk reshapes energy investments

Answer

The ‘geopolitical risk premium’ associated with fossil fuels is no longer just an abstract externality. Instead, it’s a measurable impact on adjusted EBITDA (earnings before interest, taxes, depreciation and amortisation).

Overview

In today's energy landscape, geopolitical risk has transformed from a distant concern into a pivotal factor shaping investment strategies and asset valuations. The geopolitical risk premium, essentially the extra return investors demand due to uncertainties like conflicts and policy shifts, has become a tangible influence on metrics such as volatility-adjusted return (VAR) and adjusted EBITDA. These metrics now play a crucial role in assessing how geopolitical factors and market volatility impact investment outcomes.

Recent studies reveal that investors that incorporate geopolitical risk into their VAR assessments make significantly different decisions regarding asset quality and capital allocation compared to those focusing solely on headline returns. Notably, renewables have emerged as consistent leaders in delivering superior risk-adjusted returns, especially during periods of global instability. This trend was highlighted in March 2026, when research highlighted the underestimation of geopolitical risks, prompting a surge in renewable investments.

Geopolitical risk has become a central consideration in energy investment decisions, widening the gap between headline return on investment (ROI) figures and more conservative, risk-adjusted evaluations. While fossil fuels may appear cost-effective during stable times, their returns falter when volatility is considered. In contrast, renewables excel due to their structural resilience against geopolitical disruptions.

At the heart of modern energy economics lies the VAR metric, vital for pricing the asymmetrical shocks of volatile geopolitical environments. The events of March 2026 demonstrated that neglecting these risks leads to suboptimal investments and widespread repercussions. By proactively integrating geopolitical risk premiums into their strategies, investors in renewables gain a competitive edge, showcasing resilience and consistent performance amid growing geopolitical uncertainties.

The ‘geopolitical risk premium’ associated with fossil fuels is no longer an abstract concept; it’s a measurable impact on adjusted EBITDA, reshaping the future of energy investments.

VAR, adjusted EBITDA and the ROI gap

At the heart of this shift is adjusted EBITDA, which affects how companies are valued, their borrowing capacity and investment screening. EBITDA is crucial for evaluating company value and lending potential. Now, geopolitical risks are increasingly impacting adjusted EBITDA, changing how companies are valued and how much debt they can handle. VAR connects expected returns to higher risks caused by geopolitical instability, highlighting a gap in returns due to project delays, weaker earnings, supply chain issues, infrastructure challenges, and increased insurance and logistics costs. Essentially, VAR turns the idea that ‘uncertainty costs money’ into a consistent way to price unexpected shocks, helping with careful investment decisions and risk management. Recent market conditions have increased VAR by widening the gap between expected and actual returns in the energy sector.

Fossil versus renewables: volatility-adjusted performance

The headline cost advantage of fossil fuels often vanishes once volatility is priced in. Fossil fuels may appear cost‑effective in stable periods, yet they tend to underperform on a volatility‑adjusted basis compared with renewables, which benefit from structural de‑risking. Renewables become commercially preferable when geopolitical risk premia are embedded in underwriting and capital allocation. This isn’t a ‘green premium’ argument; it’s a risk‑pricing argument that aligns operational resilience with capital discipline.

Capital flows, ‘national security tax’ and macro spillovers

Risk premia are shifting energy investments from less stable, lower-cost regions to higher-cost areas like Venezuela. A growing geopolitical risk premium, dubbed a ‘national security tax’, is pushing the market towards domestic renewables and nuclear power, even with rising interest rates. These factors may lead to persistent stagflation, delayed rate cuts until late 2026, and impact discount rates and investment assumptions.

Operational renewables: resilience in shocks

In the world of renewables, not all assets are created equal. Operational renewables with merchant exposure stand out for their ability to thrive even in turbulent times. When geopolitical shocks send fossil fuel prices soaring, these renewables shine by boosting EBITDA. They benefit from higher wholesale power prices while sidestepping fuel costs entirely. Brownfield renewables, with their low marginal costs, are particularly adept at resisting inflation, outperforming traditional thermal plants. Moreover, policy-driven initiatives in Europe and the US, aimed at energy self-sufficiency, provide additional support through subsidies and enhanced grid access, further strengthening their cash flows. This unique resilience positions operational renewables as a formidable force in the energy landscape.

New capacity: why the ROI gap is widening

The pipeline story is different. The ROI gap for newbuild projects is expanding as deployment costs outpace revenue gains. Three structural headwinds dominate: capital cost escalation from persistently high-policy rates; supply chain risk premia from tariffs and friendshoring that push up Capital expenditure (CAPEX); and a ‘policy uncertainty tax’ from volatile incentives and carbon pricing, with the EU Emissions Trading System currently projected at €84/tonne, all contributing to higher hurdle rates. The paradox is clear: operating renewables can thrive on volatility, while development pipelines demand tighter structuring and patient capital.

Fossil fuel outlook

The fossil fuel industry, especially oil, is facing tough times in the UK and Europe due to instability. Ongoing conflicts in the Middle East have severely disrupted supply, leading to reduced shipments of crude oil and refined products to Europe. This has forced major production cuts and caused supply chain issues.

These disruptions have led to significant price fluctuations, with sharp increases in the cost of oil, jet fuel and diesel, along with higher freight and insurance costs. It's expected that European oil demand will drop by about 30 thousand barrels per day in 2026, with a 2.6% decrease in the UK, mainly due to less air travel and higher costs for petrochemical materials.

The fossil fuel market is increasingly affected by rising risks due to operational and geopolitical uncertainties, leading to higher prices for consumers and lower returns for companies.

Economic instability, high inflation and the risk of stagflation are worsened by these supply shocks. While short-term measures like releasing emergency reserves can help temporarily, the region's dependence on imports and fixed supply routes remains a problem.

There’s also uncertainty in policies and regulations, with unpredictable government actions and changing support for energy sources. This leads to project delays, reduced investment in fossil fuels and lower asset values.

In summary, the fossil fuel sector is facing significant supply and pricing risks, declining demand, and ongoing economic challenges. Investors are increasingly moving away from fossil fuels due to their volatility and risk, leading to a shift in capital away from these assets in the UK and Europe.

Renewable energy outlook

The investment and policy environment for renewable energy in the UK and Europe is very positive. Renewables benefit from trends like energy self-sufficiency and stable returns, especially as fossil fuels face challenges.

Renewable energy assets show strong resilience amid geopolitical and policy risks. They maintain stable profits even when fossil fuel markets are unstable. Although renewables face some challenges like higher financing costs and supply chain issues, these are generally easier to manage than those in the fossil fuel sector.

Risk considerations, sometimes called a ‘national security tax’ on fossil fuels, are pushing investments towards renewables and nuclear energy. This shift is driven by the need for stable and secure assets.

Government support, policy incentives, and energy transition mandates in the UK and Europe make renewables attractive. Despite some uncertainties in deploying new capacity, renewables remain commercially strong due to their resilience and reduced exposure to price fluctuations.

Operationally, renewables are less affected by global supply and geopolitical issues. They use local resources, with main risks coming from policy changes or supply chain costs, rather than imported materials. Renewables help stabilise energy portfolios, reducing inflation and vulnerability to international energy shocks.

The fossil fuel sector is seen as risky and unattractive for long-term investment due to volatility, economic challenges and stricter policies. Renewables, supported by resilience and favourable policies, continue to gain appeal despite short-term issues. They’re expected to dominate the UK and European energy markets, while fossil fuel investments decline due to rising risks and weak demand.

In conclusion, both sectors face challenges like high financing costs and regulatory changes. However, renewables consistently outperform fossil fuels in VARs. Policy frameworks, investor behaviours, and risk-adjusted economics collectively support accelerated investment in renewables across the UK and Europe.

Conclusion

The current energy landscape is undergoing a profound transformation, driven by the undeniable impact of geopolitical risk on fossil fuels and the rising prominence of renewables. As the geopolitical risk premium becomes an integral part of financial calculations, the focus has decisively shifted from merely chasing return on investment to prioritising consistency and reliability. This shift isn’t just a strategic adjustment, but a necessary evolution in response to the volatile and unpredictable nature of global energy markets.

Fossil fuels, once the cornerstone of energy security, now face a high-risk environment characterised by supply disruptions, price volatility and geopolitical tensions. These challenges have eroded their perceived stability, prompting investors to reassess their portfolios and seek alternatives that offer more predictable outcomes. Renewables, supported by favourable policies and inherent resilience, have emerged as the preferred choice, offering not only environmental benefits, but also financial stability in an uncertain world.

The integration of geopolitical risk into adjusted EBITDA calculations underscores the need for a forward-thinking approach. Investors that proactively incorporate these risks into their strategies are better positioned to navigate the complexities of the modern energy market. By embracing this new paradigm, they can achieve a competitive edge, ensuring that their investments are not only profitable, but also sustainable in the long term.

In this dynamic environment, the true winners will be those that recognise the value of adaptability and foresight. By aligning their capital structures and investment strategies with the realities of geopolitical volatility, they can secure a future where energy investments are defined by resilience and reliability, rather than mere returns. This is the new frontier of energy investment, where the lessons of the past inform the strategies of the future, and where consistency and reliability reign supreme.

Erum Ali is a first-seat trainee currently in the real estate team, working within energy and natural resources and operational property at Womble Bond Dickinson.