COP26 pushes methane up the ESG financing agenda
A pledge to cut methane emissions by 30% by 2030 was hailed as one of the big successes of the UN's COP26 climate meeting and measures to curb leakage could quickly appear in ESG bonds and loans as companies scramble to amend sustainable financing frameworks.
Reducing methane leakage is seen as a quick win for global emissions as methane has a shorter life than CO2 but is 80 times more potent in warming the planet. Cutting leakage of the gas is therefore one of the most effective ways to slow climate change.
Provisions to curb methane leakage could be introduced by the type of projects that companies select in use of proceeds deals such as green bonds or loans, or by creating new key performance indicator targets – similar to CO2 metrics – for sustainability-linked deals.
"After COP26, I do expect that we will see targets on several different indicators, methane being one of them. I think it has really highlighted to investors that we need not only targets on climate, we need targets on all of the planetary boundaries," said Erika Wranegard, a fixed-income portfolio manager at Lombard Odier Investment Managers.
More than 100 countries joined the Global Methane Pledge, a US and EU-led effort to cut emissions of methane by 30% from 2020 levels, which now covers countries representing nearly half of global methane emissions and 70% of global GDP, despite some notable exceptions.
The US and China also announced that they will improve the measurement of methane emissions before the next COP27 climate summit in Sharm El-Sheikh, Egypt in November 2022.
China plans to develop an ambitious and comprehensive national action plan to bring down methane emissions in the 2020s, and the US is one of the only countries with proposed regulation. The US Clean Air Act is designed to reduce methane emissions from oil and gas sources and aims to cut 41m tons of methane emissions between 2023 and 2035 and reduce methane emissions in the oil and gas sector by about 74% compared with 2005.
However, some market participants feel that while greater disclosure will make it easier to make decisions, the measures proposed are still not good enough.
“The most urgent thing is to ban methane – it’s a simple thing – and stop investing in it. From an investor perspective, anything that’s got methane involved is not consistent with achieving our climate goals,” said Sean Kidney, CEO of the Climate Bonds Initiative.
Who's next?
While proposed US regulation puts its oil and gas companies firmly in the line of fire, other sectors, such as utilities are also front and centre, including gas pipeline operators and water companies, as well as the agricultural sector, and are likely to introduce ESG financing targets.
Methane targets could be introduced into new project categories in use of proceeds bonds to improve resilience to methane leakage. As most regulated utilities typically borrow in use of proceeds format, this is deemed most likely.
Methane targets could be more powerful in the sustainability-linked format, which can attach an economic incentive to methane and methane-leakage reduction targets. Only one SLB so far has referred directly to methane – Dutch energy network operator Gasunie’s €300m SLB in early October.
One of Gasunie’s two KPIs said that methane emissions must not exceed 70 kilotonnes of CO2-equivalent for the full calendar year 2030, a reduction of 50% compared with 2020.
Some investors feel that the transition bond format could be more appropriate for high emitters facing the uphill task of cutting emissions, such as Italian utility Snam, which has issued four transition bonds so far.
Methane is an urgent issue and companies could potentially update their sustainable financing frameworks in a couple of months if they have already identified the projects and investments needed or the right KPIs and timeframes for sustainability-linked deals.
"If there is a will, setting methane targets is very doable. If companies have operational clarity, the financing piece is very quick to resolve," said Arthur Krebbers, head of sustainable finance for corporates at NatWest Markets.
Easier metrics
Companies may find it easier to set methane targets than CO2 metrics as its easier to identify which parts of a business are causing methane leakage than it is to identify indirect Scope 3 CO2 emissions.
ESG financings with methane targets would also be eligible for the ECB’s Corporate Sector Purchase Programme as they are environmental targets.
Investors are raising methane leakage in roadshows and are urging companies to adopt methane targets in direct feedback, but recognise that it could take time to create benchmarks and broader understanding.
"Methane is definitely an issue that we need to address in the investor community," Wranegard said.