Green bonds have experienced a remarkable ‘multiplication of interest’, but issuance is still falling short of what is needed to finance the transition to a low-carbon economy. In this issue of The Intelligence Report, Felipe Gordillo, senior ESG analyst, and Xuan Sheng Ou Yong, green bonds & ESG analyst, discuss the shape of and outlook for this market .
- Issuance has grown impressively, but there is room for more
- Transparency requires further boost to reassure investors
- Even more than measurability, incentives are needed for green bond market to grow
Green bond issuance in 2018 amounted to more than USD 170 billion and this year’s total could reach around USD 200 billion (see Exhibit 1). If that pace of issuance can be sustained over the coming five years, the global stock of green bonds would total around USD 1.5 trillion by 2024. While such growth would be impressive, compared to the total volume of fixed-income securities worldwide, that amount is still a modest 1.5%.
To successfully finance a low-carbon economy, much more is required. The Climate Bonds Initiative estimates that green bond issuance needs to reach around USD 1 trillion per annum. The question then is how to structure the market to facilitate issuance, and ensure that global appetite for green assets is met with solid and verifiable products.
Exhibit 1: Annual green bond issuance (USD million)
Source: Climate Bonds Initiative, Oct 2019
Green bonds – the appetite is there
The appetite for green bonds is there among both institutional and retail investors. Global demand is such that some form of ESG capability or green investment programme is practically a must-have. This is not just a matter for developed markets. With the limited exception of China, standards in Asia are similar to those in Europe or the US. Even in China, the private market now recognises that fossil fuels are out and issuers looking to tap international investors are aligning with international standards.
Still, investors should pay attention to the credibility of the impact assessment in any green bond. BNP Paribas Asset Management applies a transparent process to select bonds that can verifiably be shown to have an impact, and excludes the ones that are less verifiable. This level of care is necessary: not all issuers are ready or able to structure a solid green bond, and asset managers need to be able to allow investors to explore the green bond space with reasonable confidence and security.
Progress, but there is still work to be done on reporting standards
Impact reporting should show the amount of carbon avoided by investing in a specific bond, or another measurable impact such as greater sustainability of the issuer’s business or operations. This avoids greenwashing public relations exercises. Unfortunately, despite progress around the International Capital Market Association’s green bond principles and other initiatives, there is still no common protocol for impact reporting.
Encouragingly, more and more investors are engaging with issuers, even sovereigns. Examples include discussions with the Indonesian and Dutch governments about their green bond issuance that clarified their strategy on climate change, the actions being taken, any progress, and any constraints.
Central banks hold the key to growth
Even more than measurability, the green bond market needs incentives to grow. While demand from pension funds, sovereign wealth funds and other major institutional investors is evident, central banks with their immense balance sheets are key to unlocking the potential. A central bank buying green would send a signal to bond investors of a tightening in primary markets, reducing the cost of capital for companies. Such an economic incentive would really allow the green bond market to scale up.
However, no one expects central banks to immediately execute a green asset purchase programme to replace entirely their current programmes of providing establishing sufficient liquidity against foreign currency needs of countries, and quantitative easing.
Whatever it takes
After all, the green bond market today is still less than 1% of the entire bond market. However, it does not mean that central banks should only talk, and wait for the green bond market to become a USD 100 trillion market, before taking action.
The Bank Of International Settlements published a paper in September 2019 that describes how central banks can act today to purchase existing green bonds in a credible manner (read: non-tokenistic).
Former President Mario Draghi said in 2012 that the ECB will do ‘whatever it takes’ to preserve the euro. It is time for central banks to do ‘whatever it takes’ to prevent the climate crisis, in the process preserving their domestic currencies too.
As a founding signatory of the UN Principles for Responsible Investment (PRI) in 2006 and a member of the Institutional Investors Group on Climate Change (IIGCC) since 2003, BNP Paribas Asset Management is among the first movers in green bond investing. In December 2015, it became a founding signatory to the Paris Green Bonds Statement. BNPP AM launched its first dedicated green bond fund in 2017. As of the end of September 2019, the fund had EUR 394 million in assets under management.
 Based on an interview in the Impact Investing in Asia book, published by Asia Asset Management, November 2019
This article appeared in The Intelligence Report – 12 November 2019
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Any views expressed here are those of the authors as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients.