At the February gathering for its annual Deals of the Year Awards, the ACT was thrilled to welcome a new Green Finance category into the fold. The introduction of this award reflects a growing body of evidence to suggest that ethics and a curiosity for inspired innovations are becoming more powerful drivers behind investors’ decisions. Indeed, leading advocacy group the Climate Bonds Initiative predicts that the total value of green bonds issued in 2018 will top out somewhere between $250bn and $300bn: an increase of 60% or more on last year’s issuance in the field. As ACT chief executive Caroline Stockmann notes: “Those companies who are embracing green finance are not only helping to assure us all of a future, but they understand there is a solid business case backing their approach.”
Just before the ACT unveiled its new award, the European Commission’s Sustainable Finance High-Level Expert Group (HLEG) put forward a roadmap for a cleaner and greener EU economy. Following a thorough investigation of numerous green-finance initiatives in progress around the world, the HLEG published a detailed final report on 31 January, outlining its vision for a more sustainable model for the region’s financial system. The report contains a number of recommendations that treasurers would do well to flag up with their CFOs. So, without further ado, let’s take a look at some of the key proposals from the report that could influence corporates’ activities in the green bonds market.
“As a first step towards establishing official EU sustainability standards,” the report notes, “the EU should introduce an official EU Green Bond Standard (EU GBS).” The most eye-catching feature of this proposal is that the EU GBS would differ from the existing Green Bonds Principles (GBPs), which were developed by a host of international banks and are now monitored by the International Capital Market Association. For example, while external reviews of green bonds are merely recommended under the GBPs, they would be required under the EU GBS. And while the GBPs recommend impact monitoring and reporting “wherever possible”, the EU GBS would strictly enforce those levels of scrutiny. So, what are the EU GBS’s underlying intentions, as distinct from the GBPs? According to the report, the proposed standard “would incorporate existing best market practice, while … addressing uncertainties and areas of concern that may require greater prescription, or more explicit criteria”. The standard’s prime objective, it adds, would be “to help raise overall investments in green projects and activities, and its success should be monitored and assessed against this benchmark”. To that end, the standard would aim to resolve a number of lingering issues that stakeholders in the green bonds market have raised – such as:
As such, the policy objectives behind the EU GBS would be targeted to spur a significant growth of investment in green projects – particularly those that contribute to key, EU environmental policy objectives, for example the Paris Agreement and the EU Biodiversity Strategy. The standard would apply across the full range of issuer types, covering the corporate, sovereign, sub-sovereign and agency-sovereign categories. Once in place, the HLEG hopes, the standard will:
To complement the standard, the HLEG suggests, policymakers should also consider introducing an EU Green Bond Label – essentially, a financial kitemark. That, says the report, will help the market to develop as fully as possible, maximising its capacity not just to finance green projects and initiatives, but to contribute to wider EU sustainability objectives, too.
As well as proposing the EU GBS and Green Bond Label, the report makes a series of recommendations for the roles that credit rating agencies (CRAs) and sustainability rating agencies (SRAs) should play in furthering the development of Europe’s green economy. Let’s explore some of those points.
The report says that CRAs should “systematically integrate” relevant environmental, social and governance (ESG) criteria into their credit-rating analyses, along with factors related to longer-term sustainability. CRAs should ensure that their amended rating methodologies are not only fit for purpose and publicly available, but require “robust disclosures” in line with the key recommendations set out by the Task Force on Climate-related Financial Disclosures (TCFD) . It will also be vital for CRAs to ensure that their staff are sufficiently trained to conduct analysis of ESG factors relevant for assessing creditworthiness. In tandem, the European Securities and Markets Authority should use its existing regulatory framework to enforce an integration of ESG risk factors into the methodology, transparency and governance of credit ratings. “In back-testing,” the report suggests, “CRAs could analyse how ESG criteria played a role in corporate defaults.” The report notes that the European Commission should monitor closely the integration of ESG tests and values into the credit ratings market structure. The importance of the climate transition, it says, “should galvanise sufficient political will” to ensure that the market structure has the required scope to evolve. Measures that the Commission could take, it adds, “include encouraging market entry, and/or the production and use, of longer-range credit risk assessments, which – due to their longer time frame – would incorporate ESG risks more substantively”.
Turning to SRAs, the report urges the EU to “support and strengthen” their work, as they are already crucial brokers of sustainability data within the capital markets. It says: “This could be done by promoting the quality of sustainability ratings and of the rating processes, as well as by monitoring and assessing the extent to which sustainability ratings are considered in long-term investment decisions. “Specifically, [HLEG recommends] that the Commission boost clarity and transparency on sustainability ratings through the development of guidance or – more stringently – a set of minimum requirements for organisations that deliver ESG data analytics and ratings, paying particular attention to the issue of independence.”
Matt Packer is a freelance business, management and finance journalist