Green Bonds, Sustainable Finance and Climate Change – IMF F&D | DECEMBER 2019
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- Authors: AFSANEH BESCHLOSS, MINA MASHAYEKHI
- Published: December 1, 2019
Market growth and uptake
- Green bonds blazed a trail for sustainable finance and could eventually reach into trillions of dollars in climate-related projects, including renewable energy, energy efficiency, and ecosystem protection and restoration.
- From 2008 to 2018, dozens of institutions and governments issued more than $521 billion in green bonds (Climate Bonds Initiative, 2018 report).
- In the first half of 2019 alone, new certified green bond issues topped $100 billion globally.
- Forecasts for the full year 2019 are as high as $250 billion (Environment + Energy Leader).
- More than 5,000 green bond issues will have come to market by the end of 2019, estimates CBI.
- The green bond market has proved to be robust, durable, and scalable for a diverse array of market players worldwide.
Standards, verification, and market infrastructure
- Founders created a new class of securities that needed to be credible, replicable, and attractive to institutional investors and environmental organizations.
- Key voluntary frameworks and protocols:
- Climate Bonds Initiative (CBI) launched in 2010 and published the Climate Bonds Standard and Certification Scheme in 2010.
- International Capital Markets Association (ICMA) expanded to include a set of green loan principles in 2014.
- These frameworks assemble teams of scientists and leaders to develop rigorous standards and win endorsement from a critical mass of issuers and investors.
- Independent verification is essential:
- Leading firms such as CICERO and Sustainalytics have conducted external reviews of more than 88 percent of the 5,000 bonds labeled as green by CBI.
- Such labeling means that at least 95 percent of proceeds go to environmental uses and that underresearched and controversial areas are excluded.
- The World Bank developed a rigorous and transparent model for verifying its green bond issues from the start.
Challenges: greenwashing, scope, and measurement
- Dubious players have entered the market, blurring lines between sustainable and nonsustainable projects (examples cited: “clean coal” projects in China; bonds sold by Spanish oil company Repsol).
- Backlash has sparked debate about the need for more precise definitions of investments that contribute to sustainability and how much.
- High-certification standards (ICMA/CBI) sometimes exclude contested but climate-relevant and investable areas such as nuclear energy and air travel.
- Air travel accounts for 2 percent of the global carbon intensity of emissions—and growing.
- Sector-by-sector analysis is time-consuming; frameworks for industries such as cement and steel have only recently been explored.
- Cement and steel together contribute 15 to 17 percent of global carbon dioxide emissions but are essential to infrastructure that supports the green transition (electric-vehicle charging stations, floodwalls).
Scale, diversity, and innovation in sustainable finance
- The broader sustainable investment landscape:
- Global Sustainable Investment Alliance estimated $30.7 trillion in institutional assets invested in sustainable; environmental, social, and governance–focused; or green products in six major markets at the beginning of 2018 (Australia, Canada, Europe, Japan, New Zealand, United States).
- That $30.7 trillion represents an increase of 34 percent since 2016.
- Many organizations track a combined labeled impact bond market with an estimated value of up to $1.45 trillion as of 2018.
- New labeled instruments and niches include:
- “Blue bonds” (coastal restoration, marine biodiversity, sustainable fisheries, pollution control).
- “Humanitarian bonds” (pandemic disease, migration).
- Specialized issuers such as the International Finance Facility for Immunisation.
- The market is experiencing a period of innovation with new securities and investment structures emerging each year.
Risk-return evidence and investor implications
- Emerging public and private sector data suggest that green bonds often fare better than brown peers in pricing, liquidity, and performance.
- While definitive conclusions remain elusive, investors appear able to invest in green bonds without hurting portfolio performance, with upside potential as climate-resilient assets may carry lower risks and potential for better returns.
- Central investor questions:
- Should investors accept a lower return on green bonds from a given issuer than on that issuer’s “brown” offerings?
- Should issuers expect lower financing costs—a so-called greenium?
- Should issuers accept lower internal rates of return on green private equity or infrastructure investments?
- Fiduciaries’ initial reaction has often been “no,” but attitudes are changing as efforts intensify to better quantify long-term risks and returns associated with climate and the United Nations Sustainable Development Goals versus short-term profits.
Policy and institutional recommendations
- Institutional investors must be savvy when allocating ever-larger sums of capital to green finance.
- Long-term, sustainable investors and asset owners should:
- Insist on rigorous analysis and a high threshold for institutional engagement.
- Use seasoned, experienced, and nimble advisors and managers.
- Continued emphasis on independent verification, clear metrics, and sector-specific standards is necessary to maintain credibility and ensure environmental impact is transparent, verifiable, measurable, and compliant with international standards.
Green Bonds, Sustainable Finance and Climate Change – F&D Magazine, December 2019
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