For all the talk of green bonds they are only a small part of the story when it comes to the way in which financial instruments can tackle climate change. They also represent no more than a transition point.
"Green bonds are a way for companies and governments to raise the funds they need to address the renewable energy conundrum, while also providing access to things like clean and affordable transport. In essence they are regular bonds, the proceeds of which are used to finance projects such as solar power, hydropower, green transport infrastructure and so on," says Michael Curran, head of institutional business at Amundi Ireland, part of the French asset management group.
They are a natural result of the vast amounts of capital required to facilitate the transition to a more sustainable economy. The green bond market already boasts over $1.5 trillion of assets, having grown by over $700 billion in the past two years alone. This growth has been aided by the increase in Net Zero pledges by corporates and governments alike.
The International Capital Market Association (ICMA) has published guidelines to define what a green bond is. "These ensure green bonds are used appropriately to raise finance for green projects, that those projects are fully evaluated, that proceeds are managed correctly and that the impact is accurately reported," he says.
European issuers have led the way on this, and in recent years Ireland has also come to the green bond table with the NTMA and several corporates issuing green bonds to fund their energy transition projects. The NTMA’s first foray into the green bond market dates to 2018, with the €3 billion syndicated sale of Ireland’s first-ever Sovereign Green Bond.
“This green bond has financed green projects such as the afforestation of 28,000 hectares and energy-efficiency grants for over 17,000 homes. Ireland has one of the most ambitious climate targets in the world, having committed to achieving a climate-neutral economy by 2050 and building a whole-of-society and whole-of-government approach, encompassing taxation, expenditure, regulation and behavioural change,” says Curran.
Amundi has been managing Impact Green Bond funds since 2016. “Green bonds are growing from strength to strength and, given the global struggle with climate change and the energy transition, this can only continue,” he adds.
Mandates
Investors are increasingly demanding socially-responsible opportunities. "While retail investors demand sustainable investments from brokers and fund managers, institutional investors such as pension asset managers are using green bonds to address environmental, social and governmental (ESG) mandates. Additionally, central banks are driving sustainable finance which is intrinsically linked to green bonds," says Conor Holland, director, ESG assurance, KPMG in Ireland.
Given the urgent need to tackle climate change, that demand will only rise. "The Irish Sovereign Green Bond was issued to fund eligible projects such as water treatment schemes, retrofit programmes, flood relief and other specific schemes. Banks are issuing green bonds in order to provide a pool of funding specifically for green lending," says Brian Haugh, head of BDO valuational and financial modelling centre.
“For many ethically-minded investors simply knowing that their money will be used exclusively for positive environmental impacts is reason enough to invest. However, there is also some evidence that green bonds can offer investors lower volatility and higher risk-adjusted returns, which represents a win-win for ethical investors.”
Hard to believe but the world's first green bond, issued by the World Bank, only landed in 2009. Since then the definition of what is green has evolved and become more prescriptive, particularly in the last two years, says Mark Kennedy, partner audit and assurance at Mazars. A sharper focus on areas such as energy, energy efficiency, pollution prevention, sustainable agriculture, clean transport and green building and housing has reduced the scope for greenwashing.
There is no denying the marketing value of having a good green story to tell right now, but that doesn’t mean there isn’t a hardnosed commercial reason for green finance generally either. “For investors, it’s a bit of both,” says Kennedy.
Not alone are the projects which green bonds fund increasingly likely to be astute investments, but on the retail side too demand is growing apace, whether for pensions or investments.
He says increasingly independent audit and assurance in this field will ensure people can rest assured knowing their green money isn’t going to fund “brown” activities.
Transition
But green bonds are only a tiny subset of the total bond market, and their issuance just a steppingstone in the transition of the whole bond market becoming greener, says Johnny Mattimore, head of global risk and sustainable funds at First Derivative.
“There will never be enough newly-issued green bonds to meet demand from investors. Instead existing bonds will have to prove their level of ‘greenness’. Therefore, just like we have ‘bond credit ratings’, we shall need to develop ‘bond green ratings’.”
That way it won’t matter if one has issued a green bond or an ordinary bond because the quality of the green bond will be determined by each bond’s green rating. It’s a reflection of the fact that “green” has moved mainstream. In some cases he predicts there may be ordinary bonds with higher green ratings than certain green bonds.
“This means that over time all financial services firms, including banks and asset managers, will have to develop an internal green rating model, just like they have developed an internal credit rating model,” says Mattimore.
In the Irish market this means banks and the Central Bank will need internal green rating models, and they will need to support both the issuance of both green bonds and ordinary bonds where both types of bonds have improving green credentials, with higher data disclosure requirements and a higher frequency of data disclosure to prove "green progress" throughout the life of the bond.
“The green bond market is small, and not the big story,” says Mattimore. “Repricing the big bond market according to green credentials – that is the big story,”
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