Thursday, 23 November 2017

IFR Green Bonds Roundtable 2015: Part 1

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IFR: Good morning and welcome to this IFR roundtable on Green Bonds. Green Bonds have been among the most exciting developments in DCM for some considerable time. The market flourished in 2014, reaching close to US$40bn in new issuance. Beyond primary volumes, the market’s ecosystem also evolved apace, the issuer base broadened and the investor base deepened. The market’s forecasts for 2015 outstandings is around US$100bn. I’ll be curious to pursue the feasibility of hitting that number.

Of course, beyond the development finance institutions and multilaterals that built the market, issuers now include regional issuers, provinces, cities and municipalities, renewable energy companies, industrials, banks and real estate companies as well as utilities. In terms of issuer profile and structure we’ve seen issuance across investment-grade, high yield, convertibles, ABS, private placements, project bonds, mini-bonds; and the buyers have been institutional, high net worth and retail.

Ulrik, can you take us through how we morphed from an interesting supranational marketplace into today’s dynamic global marketplace for Green Bonds?

Ulrik Ross, HSBC: We’ve been on a journey since 2007/2008. At that time it was a local currency niche market focused on retail investors. It was kick-started by the supranationals, which had very strong mission statements to fulfil environmental purposes within their loan programmes and it was very natural for them to embed strong environmental governance structures into their loan allocation and loan scrutiny processes. So for them to become market leaders and try to develop product that reflected their core values was key but it also came quite naturally.

The supranationals developed a strategy that was driven very much by price efficiencies reflecting on their core values. Then in 2012-13 the World Bank started to align its environmental loan framework with their capital markets activities and, together with the IFC, came up with a sustainability financing foundation. That morphed into what we see as the framework for the Green Bond principles today.

Since we saw the first benchmark offerings in the Green Bond space by the IFC, investors have recognised a huge opportunity to invest in liquid assets that offer the same yields as conventional bonds. As an investor with a fiduciary mandate, you don’t have to give up anything on that side; it’s an efficient investment for you but it’s also a value-driven investment at the same time where you actually get something extra to your normal bond offerings i.e. you can show to your stakeholders, your shareholders, investors in your funds that you are doing something much more than generating return on your assets.

As more funds started to engage in environmental investments and set up dedicated investment policies, we grew the issuance volume across sectors and formats helped by the introduction of a framework and guidelines for how to do these things. The Green Bond Principles were arranged and we saw the first major corporates successfully come to the market. The framework evolved over time and you’ve lately seen financial institutions issue green bonds as well – these have been less frequent to-date so we would definitely welcome a lot more financials to participate in the market.

IFR: Tanguy when corporates first started to come to the markets this year, there was a lot of scepticism with claims of green-washing and green bonds being a marketing gimmick used by corporates trying to reinvent their image? How do you respond to that, especially bearing in mind many of the corporate issuers don’t have particularly green track records?

Tanguy Claquin, CA-CIB: You go straight to the tough questions. By way of background, the first corporate that tapped the public market in size was EDF in November 2013, so the market has been open to companies for over a year. The dynamic is a bit different in the SSA space, where Green Bonds have now become part of the normal funding landscape. In the corporate space, it’s still a new product and not all corporations that are eligible have decided to tap the market.

There is a special dynamic at play in France which we are not seeing elsewhere on the corporate side and that’s due to a number of factors, so EDF’s €1.4bn trade was followed by Unibail-Rodamco, the first real estate company into the market [€750m in February 2014] and GDF Suez [€2.5bn dual-tranche in May 2014].

Regarding green-washing, there is no particular difference in terms of the types of assets that have been financed by most corporates against those that have been financed by SSA issuers; the green quality of the assets is the same. But financing climate change mitigation is not part of the mandates of corporates so claims of green-washing come more naturally. Some projects that may be financed by the GDF Green Bond are saving millions of tonnes of carbon per year (as validated by the United Nations Framework Convention on Climate Change (UNFCCC) and follows the performance standard of the IFC.

Sure, there is discussion about whether it’s green or social enough. But clearly, the point is not that the quality of assets financed by corporates is not as good as those financed by the SSA; it’s rather that large corporates more naturally fall under the scrutiny of NGOs and other observers.

There are so many different views about what is green and not green just as there are many different scenarios to mitigate climate change and achieve the two degree cap on temperature increase and that’s a debate that goes beyond what banks are able to judge. There are so many ways to define what is green and not green that it will take time to solve this. If we ever do …

Navindu Katugampola, Morgan Stanley: What’s really been apparent to us with regard to the development of the Green Bond market, the size it’s grown to, and the exponential growth versus 2013 means that a lot more corporates are paying attention to it. What the market is doing is encouraging corporates to take a look at how they do their business, how they run their operations, how they manage their infrastructure and to ask themselves how it can be done in a more responsible, in a more environmentally friendly and more sustainable way. Irrespective of the industry that you operate in, that has got to be a good thing.

As to whether you view it as green washing or not, ultimately that’s a decision for an investor to take, to look at the individual bond and what it’s supporting, and whether that’s something they want to buy into. But as a general principle, that idea of sustainably managing companies going forward has to be a positive thing.

Related to that, as Ulrik said about the growth of the market, I completely agree that the US$1bn IFC deal [of February 2013] was transformational because it represented the first large liquid point in the market that people could really crystallise their thoughts around and think of it not just as a niche product for retail investors but a product where there’s institutional demand. According to Eurosif’s 2014 ESR report, the growth of ESG integration in Europe went from just over a trillion euros in 2007 to €5.2 trillion in 2013.

The growth of the market has been commensurate with the growth of assets under management, managed according to environmental, social and governance principles. Tanguy mentioned EDF: why that was crucial for the growth of the market is it really epitomised all the ideas we’d gleaned from the SSA segment, around having transparent use of proceeds; transparent management of proceeds, a clear process of project selection; and then some form of reporting.

It gathered all those ideas together in the first corporate deal and a lot of those concepts – before we’d even thought about the Green Bond principles – were already epitomised in the EDF deal and subsequently enshrined in the Green Bond principles. What EDF did was really illustrate a roadmap for how other corporates could access the market.

The Unilever deal, which we worked on with Citi and with DNV GL as the second-opinion provider, demonstrated how Green Bonds could be applicable to a much broader range of industries, not just pure renewables companies or renewable energy but how any company can look at their waste profile, their water consumption and their carbon footprint and see how that can be done better. Those three things have been real catalysts in the market and why allegations of greenwashing actually don’t necessarily apply as long as you have that transparency of information.

Ulrick Ross, HSBC: I’m not sure I agree 100% with Navindu on everything here. I don’t think it’s just investors’ objections or their responsibility to define what constitutes a green bond. We as market participants have a big role to play, ICMA’s Green Bonds executive committee is playing an important role in trying to come up with the governance and framework that will help set standards. We encourage everybody to use second-opinion providers.

Not all investors view green bonds in the same manner. Clear definitions and disclosure with second-party opinions will help provide transparency for this developing market.

IFR: The Green Bond principles were a fantastic starting point for the market but has the market overtaken them?

Tomas Lundquist, Citigroup: When you look at how corporates have been approaching this market, interest in this kind of financing almost has religious undertones. The principles were certainly very helpful in terms of the progression of the market. They’ve really laid the foundation of what is happening. A lot of corporates are worried about where the Green Bond principles go next and whether it will become too onerous for them to do transactions. In my mind, the growth we have seen and the growth we will need to see to get to the US$100 billion mark will be a little difficult if we don’t get more companies involved in this process.

Of course some companies will go down this path. If they have financing needs, they will try to achieve as many of those as possible in the form of Green Bonds. But at the same time, if this becomes too restrictive – a concern I hear from lots of corporates – it would become much more challenging for them.

And when it comes to green washing, just to close on this discussion point, most corporates take this extraordinarily seriously. They don’t want to be seen doing something that is not representative of what the company’s core values stand for. In my experience to-date, including the Unilever transaction we worked on with Morgan Stanley, it’s something they take at the very core. Normally when we do transaction at a corporate level, we deal with the financing teams and the CFO. The Green Bond market is seeing CEO and board involvement, which is unlike anything I’ve ever seen for regular senior debt issuance. The direction for [green bond] issuance is often driven all the way up to the very top of the company.

Stefan Reiner, Deutsche Bank: From many discussions I’ve had with corporates, they’re definitely open to the concept. As well as senior management involvement, as Tomas mentioned, sustainability officers are also involved in transactions and they want to provide the market with more information about the company and their sustainability approach. It’s a good opportunity for corporates to publish their internal guidelines and how they extend to the environmental theme in general; it’s a good marketing instrument. In terms of the growth of the market, that will depend on corporates. It can’t be that we work only with SSA issuers to maintain the growth momentum.

Regulation is a key question: is the market big enough now to sustain more regulation? Shouldn’t we wait another year or two until the market has grown to a certain size before we start with more regulation? The more regulation we introduce from the beginning, the more difficult it gets for more corporates to tap the market because they probably won’t want to run through a swatch of regulatory work before coming to the market.

IFR: Just to be clear, at the moment, the market is driven by principles not regulation.

Stefan Reiner, Deutsche Bank: That’s my point. But is the market ready for more regulation? In other words, do we want to describe exactly how Green Bonds work? The more we regulate the market the less issuers are probably going to be interested in it because they won’t want to or won’t be able to jump over all the hurdles in order to accept and deal with the regulation.

Navindu Katugampola, Morgan Stanley: Just to pick up on that point. Tomas is saying the reality with the state of play of the market at the moment is that there isn’t a single definition of what is green and what isn’t; and to the point about the responsibility we take as underwriters, our responsibility is to guide issuers in a responsible way through issuance of a Green Bond and the key considerations they need to take into account to bring a credible product to market that we feel will resonate with investors and provide the information investors are looking for.

Trying to create a single definition of a Green Bond at this point in time is not viable because the reality is, if we were sitting here a year ago we couldn’t have conceived that something like the Unilever Green Bond would even be feasible. That wasn’t within the scope of what the development banks were doing, for example. It’s really important to have some form of standardisation of approach, but not standardisation of product.

What I’d like to see in that regard is maybe a clear framework in place around some of the things we have been trying with the Green Bond principles. This would mean you could always see at a glance how a given deal is addressing use of proceeds, management of proceeds, project selection and reporting. That allows a degree of comparison, particularly if you haven’t got internal resources dedicated to it. The problem with regulation is: what is it exactly designed to achieve? And what will it do at this point for the market? It’s too nascent to move to a regulated format.

IFR: Mirko what do you make of this theme of a standardised approach as opposed to a regulated approach?

Mirko Gerhold, Commerzbank: On the issuer aside, as has already been mentioned, there are in most cases at least two departments involved in Green Bond issuance. One is the strategy department which defines the sustainability strategy; another is responsible for funding and the execution and project management of the transaction. What really helped the market to grow and also to get the corporates involved is that we have now have reached a tipping point where execution has become much easier, issuers know that very large amounts can be issued in the market and a process has been defined with third-party opinions as to what is expected by market participants and how it actually works.

This was important to help the market grow further and to get corporates involved. In this context, it’s difficult to find an ultimate definition of what is actually green because the area of eligible projects is just too broad and the issuers are so different. But it’s very important to define an execution process which ensures transparency and standardisation so that investors will know what they are buying and can decide if the offered bond is green enough under their investment mandate or not. In this context, the definitions provided by the Green Bond principles helped a lot to grow the market further.

IFR: Let me bring you in, Pernille. It seems sensible at the very least for a Green Bond to have at least one third-party external opinion. My problem with the investor point and meeting their ESG criteria is that while that may be the case, those criteria aren’t visible to the market and they can differ to such an extent that it doesn’t help the market in terms of transparency because of the inherent nuances in how investors understand what constitutes greenness.

It seems to me is perhaps harder and faster definitions may assist. I’m very interested in where second-opinion providers come in because in a sense you make the transition between aspiration, marketing and reality.

Pernille Holtedahl, DNV GL: On the broad investor point, some investors now require a second-party opinion for their green products; that might be a trend we see increasing in the future. As for our role, we are there to provide that independent opinion; we are there to provide integrity; to some extent we also educate. As well as underwriters, we sometimes speak to issuers who are perhaps new to the market and we tailor our approach to each individual issue.

By now, we know how it works and we’re happy to play that role. We don’t want to stifle the growth we’ve seen; in general it’s a very good trend and we’ve seen some good movement in the past year. We just have to be flexible. But flexibility can be combined with robustness.

We always use the Green Bond principles and we ask questions related to all four principles and that’s reflected in our opinion. From our perspective that should provide clarity. We are constantly trying to improve how we communicate with investors and we’ll see improvements over time in that as well. So it becomes eminently clear to investors whether or not to buy that bond. Even if they just scan our opinion, they should be able to pick up very quickly on whether it satisfies their requirements. 

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