IFR Green Bonds Roundtable 2016: Part 3

IFR: To what extent do the Green Bond Principles get close to what Aldo’s talking about?

Ulrik Ross, HSBC: We are talking here about some very important elements: the next iterations of green bonds. It ultimately comes down to how you define what is green and what is not. You have a labelled and an unlabelled green bond market but where do you draw the line?

It is up to the markets to decide. We don’t need anybody to regulate if investors should buy labelled or unlabelled green bonds. On the labelled side you can clearly come up with good guidelines for what that should be, which we welcome by the way. I think ICMA is doing a fantastic job in getting harmonised opinions formalised around the world.

Coming back to national standardisation with regards to regulation, we at HSBC believe regulation is a good thing if it comes with benefits. So the barrier to entry shouldn’t be higher but the same or with a benefit for people to mobilise around it in scale. We’ve had the pioneers come to the green bond market but if we want to take it from niche to mainstream we clearly need harmonised and transparent rules of engagement added to an incentive structure.

That said, we would still welcome national standards because you have different economic cycles at play in different countries. As long as standards are visible and transparent, investors have a choice to participate or not.

What do we think are some of the innovations the market would like to see in 2016? We think that there will be further discussion around the fringes of standards; around sustainability bonds, social bonds, green bonds as well as how to capture the transition to a greener economy: definitions around investment into industrial companies that want to go greener and how we can mobilise around that.

On impact, it’s not only CO2 per tonne; maybe we will get some other mechanism that can help us identify other output criteria that support the sustainability agenda and the social agenda too. We very much welcome that. But we do need to have distinctions between what is reporting, what is impact reporting, what the standards are for labelled/unlabelled bonds, and where the different categories go. Again, as long as information is of good quality and transparent, investors can then choose the direction they want to go in.

Bodo Winkler, Berlin Hyp: I am astonished because I’ve heard speakers from the issuer side and the investment bank side talk about the need for regulators to step in. For me on the bank issuing side, we are already regulated across so many fields of our business so I find such talk quite bizarre.

I very much prefer the approach of setting standards in industry groups, for instance as has already been done at the ICMA level, via NGOs like the Climate Bond Initiative, or the International Financial Institutions’ informal working group coming up with proposals around impact reporting.

This really helps. When the EIB and other development banks first came to the market and proposed what impact reporting could look like on energy efficiency, for instance, that helped issuers from the non-SSA sector like ourselves. For me that would always be a better way than having regulators, be it on a European level or a national level, stepping into the market.

Philip Brown, Citi: The Green Bond Principles are there to encourage adherence to guidelines rather than compliance with rules, so the banking community is aligned to the principle that Bodo defined. At the end of the day we are bankers, we are not environmental scientists.

The multilateral development banks have huge resources to help define what is green and define the asset classes. We do not have that as banks so I would agree with Bodo. We want to see this market grow so we don’t want to put barriers up that may discourage issuers from coming into the market.

IFR: On the flip side, though, could it be argued that it’s the absence of clear rules that is deterring borrowers from issuing green bonds?

Joop Hessels, ABN AMRO: There are many examples already in the market that you can follow and which have been proven to be successful. If you have issuers that have the ambition to come to the market with genuine sustainable assets but they can’t fulfil a specific provision in the regulation but can do it via acceptable alternatives such as certification or second opinion; that could be an interesting approach. And it will grow the market because ultimately the whole purpose of the green bond market is that you use the money to invest towards the two-degree hurdle.

Magnus Borelius, City of Gothenburg: The question is: what are the right rules? What is the right definition of a green bond? It is an important process. We are seeing so many developments on the investor side, on the issuer side, on impact reporting but to many of the questions we don’t yet have answers. Therefore even for a government or a regulator, it would be very difficult to set minimum rules because they may not have the right answers either.

And given that it is an evolving process and all the things that are happening are interdependent, we need better standards of impact reporting to define the minimum criteria. What should the minimum impact standards be before bonds can be defined as being truly green? It takes time.

Governments need to support the process but I am a bit hesitant when it comes to regulation because in the end we need to find the right answers that issuers can cope with and that investors are happy with and which yield the right outcomes in terms of environmental benefit.

Aldo Romani, EIB: It is important to make a distinction between precision and prescription. What we need is precision with regard to the basic elements of the green bond market and environmental finance in general. There is not even an established, agreed methodology for the calculation of GHG emissions.

Only recently has some taxonomy with regard to the classification or the various areas of climate action and their success come to be shared among the MDBs and IDFC. That tells you everything; everybody is calling things different names. There is definitely no need for regulation around the engineering of a green bond. But there is one component that is particularly relevant to green bonds: a commitment to transparency and accountability with regard to the relationship between what you say and what you do.

As for the rest, where the issuer draws the line is up to the issuer to decide and for investors to decide in terms of whether they buy the bonds. What is needed at this point is more certainty with regard to what is really useful and there is a very important communication role to be played by somebody trustworthy between those that issue and intermediate and those that invest.

In the absence of clarity it would also be very difficult even for SSA issuers to go beyond the restrictions they have imposed on themselves in defining eligible pools of assets. Why? It’s very simple: we might respect the idea of possible relevant legislation but then again you will always find an investor or an NGO who is not in agreement with that legislation in that specific project.

So when you want to go to market it is logical that you only pick as eligible projects those you know that when you go into the open, the possibility for controversy is close to zero because the market amplifies everything and creates risks in terms of reputation. This is also a very important aspect for corporates.

As long as you lack clarity in these areas independently of the preferences of individual investors it would be very difficult for us to include everything in the label – renewable energy/energy efficiency and beyond – because there is this risk of somebody picking something because it is particularly public and turning it into negative communication.

If, on the other hand, somebody who decides policy goals also says: “OK in these areas and based on these shared definitions, all of these projects have a value”, it will be easier for everybody to go and maximise the pool of eligible assets and therefore issue more. And continue these positive clarification processes that have already started.

That is the main lesson that we have gained thus far. And so far the market has also been able to produce some of these references, like the IFI’s work in terms of defining impact reporting, which is a step forward towards comparability and harmonisation of impact assessment. But it is really a process that at a certain point of time requires more trust and I think that the market has grown in this direction this year.

IFR: Trust by and/or from whom?

Aldo Romani, EIB: Trust by everybody, particularly the relationship between investors and issuers because this is what eventually will focus investors on the need to establish portfolios that have a specific focus on green bonds. Because the marketability of this investment and of the new investment guidelines will be bigger if there is general recognition that this segment is providing important input growth. At a certain moment, you need a public voice because the public sector still has more credibility than the private sector. Clarification will help to align private and public interests.

By the way there is also some pressure coming from China, where the green bond utility has been officially recognised and everything goes top-down. There will be some push there at the institutional levels for sure.

Charles Smith, EBRD: Certainty viewed in isolation is fantastic. Everybody wants certainty and nobody wants to take reputational risk. But I don’t think it is good if certainty comes at the expense of growth, flexibility or diversity. What I really value with the way green bond market is structured now is that it is not just a vehicle for green companies in green industries.

It is also a vehicle for change so you can have companies that are transitioning into green and if we look at bonds that are perceived as controversial we can look at the transparency of the actual bond and the underlying assets. Someone can then object to the track record of the issuer but I think it is fantastically important to allow existing companies to transition and we can’t afford just to look at new companies to make our society greener.

The key element is change. The way the green bond market was set up had a reason. And that was to promote change. From my point of view clarity is good but not at the expense of the element of promoting change that the green bond markets currently have. The key things of the Green Bond Principles in the market are transparency and disclosure. The decision as to whether a bond is green is up to investors; the issuers decide whether they want to issue and in doing so they put their head above the parapet. So there is reputational risk for both the issuer as well as for the investor.

One comment that really caught my attention was when you spoke in terms of having standards and having maybe a minimum impact that would be perceived as green: I think the entire concept of looking at minimum impacts is a challenging topic. I want to reiterate this point: impacts are all estimates. Any issuer can have projects which have a financial problem tomorrow; have a technical problem; the methodology changes and everything is recalibrated. So I want to be extremely clear: what I can control as an issuer is the use of proceeds. I’m happy to report on the impact but we have to see it for what it is.

Ulrik Ross, HSBC: I agree with Charles on that. Impact reporting is a nice to have but not a need to have and it has to stay that way 1) until we have a lot more clarity about how impact reporting is going to be measured and 2) until it is freely available for everybody to pull down and associate with a business without doing too much scientific work themselves.

When that is available we can talk more about impact reporting from a broader perspective. From my perspective as long as the entire investor community is not saying: “we won’t buy your bonds because they lack impact reporting,” I absolutely think flexibility and transparency is key going forward.

Mirko Gerhold, Commerzbank: I fully agree on that, especially on the impact reporting. I think impact reporting can be an additional piece of information and there can never be too much information or transparency for investors. But as also highlighted in the proposal on impact reporting at the beginning of December, there are a lot of issues on the methodologies.

There is no consensus on how to do it and what one should also not forget is that those sophisticated reporting methodologies can be done by very frequent big issuers, in particular SSA issuers, but it is far too much for many of the one-time corporate issuers.

And what I like in this context is that the way the market is developing at the moment, in particular with the principles and that this whole framework allows frequent issuers like SSA issuers to be accommodated on one hand but one-time issuers as well on the other.

IFR: Justin: where do you come in on this point? Where do you set the bar in terms of impact reporting and quality and standardisation, harmonisation?

Justin Eeles, Affirmative Asset Management: It comes down to transparency. You need reporting, you need at least at the very minimum to be able to provide assurance that what you said you were going to do you have done. But beyond that there has to be another step of: “fine you’ve done that but what are the results?” because that is going to ultimately influence whether you think it is a good thing to carry on doing.

Yes, there will be less-frequent issuers but there will be a number of issuers that maybe issue in smaller size but quite often and you need that element of impact reporting to actually inform your decision that this is a good thing to continue supporting.

IFR: But are you happy with a set of standards or on balance would you like to see rule-making around all of this?

Justin Eeles, Affirmative Asset Management: I think rule-making is very difficult just because you are talking about a lot of different entities from very large to small operating in very different fields; some concentrated in particular areas, and others with a much broader remit. The actual impact and reporting of those impacts are going to be very different. There could be methodological differences as well.

Standards are useful because it establishes the framework within which people operate but then you have to understand how they operate, what their results are, how they report their own results and how to interpret those results. And to come down to a quantitative metric clearly is a much more visible thing but there are so many other impacts beyond just CO2 reductions.

Aldo Romani, EIB: Our colleagues at EIB and a number of supporting institutions from the technical assessment side published a document in December that adds to the work they have done on green bond impact reporting harmonisation in cooperation with us on the capital markets side. And you see effectively what kind of work is being done in terms of mainstreaming climate action within financial institutions and taking stock of the things that people have learned with their cases.

So it is a document that has been published together with five principles, so-called ‘Five Principles for Mainstreaming Climate Action within Financial Institutions’. It is a very good document because there are a number of test cases including green bonds that are analysed for this purpose and maybe provide also a reference for market participants in this regard.

IFR: I wanted to go round the table to ask each of you to make a summary comment in terms of your aspirations, expectations, hopes, dreams, nightmares - whatever it is - around green bonds.

Magnus Borelius, City of Gothenburg: We will definitely come back to the market in 2016 and I think it will be increasingly clear that the green bond is not a treasury product. It is a tool for the city or the corporate or whoever to increase credibility around their sustainability work to show that we are serious about this. We are seeing citizens calling us wanting to buy green bonds.

Those calling us are 30-plus, it’s a generational question and they don’t really care about five basis points more or less; they want to be part of the development of a sustainable city. So I also see in 2016 that the question from us is not if we do this, but how. We don’t have to convince anyone. We will take some serious steps about trying to be a green issuer. How do you put this framework or whatever on the issuer instead of just the green bond? How do you take that as the next step? I think it will be a lot of work and that will be one of our dreams as well to reach that stage.

Bodo Winkler, Berlin Hyp: I definitely hope that the overall green bond market will continue growing and I am quite certain that the banking sector will play a bigger role in the future than it did previously, in senior unsecured but also in terms of covered bonds. What we are going to contribute to that is first of all, we will start discussion at the level of the Association of German Pfandbrief Banks (VDP). This should be in the beginning of 2016.

We at Berlin Hyp are willing to transfer our trademark rights, after setting up some minimum standards, to the VDP to enable other German Banks to issue products that they can call green Pfandbriefe as well. And our direct contribution of course to the market growth would be to issue number two next year. We will do the best we can.

Justin Eeles, Affirmative Asset Management: I think the main benefit for 2016 would be more education for the man on the street and the asset owner through to the issuer of the benefits of issuing green bonds and other use-of-proceeds social bonds. And how that is beneficial for the sustainability of a company’s operations. Ultimately the beneficial effects will promote more demand.

There is a slight mismatch between huge investor demand generating issuance but then actually being able to spend that issuance because the project timetables are often very long. But the large organisations will probably have more of the processes in place already.

Philip Brown, Citi: The spirit of global co-operation that has come together through COP21 is going to result in a further mainstreaming of green bond issuance and investment. So I am confident that we are going to see significant growth in this market in the years to come.

Aldo Romani, EIB: I will use a metaphor by the Austrian writer Ingeborg Bachmann who said: “for a new world you need a new language”. This applies to environmental finance in general. We need a shared set of definitions with regard to the classification of climate action. We need to better understand what among these climate action areas contribute most to the achievement of the goals that everybody shares after COP21.

We need to have a decision with regard to single reference methodologies for the calculation of GHG emissions. We need shared reporting principles. So I personally see the green bond market as an instrument for investors and any kind of external stakeholder to engage in this process.

The only thing I can wish for is for more and more investors, more and more of the other stakeholders that participate as observers in the Green Bond Principles to push individual engagement. And also for the people within these organisations to take initiatives so that forces are unleashed for the transformation processes that are required at this point.

Charles Smith, EBRD: Well for EBRD, environment is part of our mandate so we look forward to engaging with the markets and to continue issuing green bonds in the future. When it comes to the market, to me the big challenge will be getting the balance right between keeping the market flexible, pragmatic and diverse and at the same time have enough robustness and requirements where they are truly required to enable growth and credibility. Getting that balance right is the key.

Joop Hessels, ABN AMRO: A lot of things have been said about standards, about reporting, about pricing but in the end one of the messages that is important for issuers in 2016 is there is a lot of opportunity in the green bond market because it is a great way to have a dialogue with investors. But also a real benefit internally to connect with your sustainability team to come to certain definitions which also enable your business lines to have a more fruitful and strategic dialogue with their clients.

We saw exactly that in 2015: the development of new frameworks, sectors and jurisdictions that we can be used going forward. Continuous dialogue takes sustainability into the whole company and green bonds are a perfect tool for that.

Mirko Gerhold, Commerzbank: We are seeing a lot of developments and progress in very different areas and a lot of different stakeholders are involved. I hope and expect this to continue and eventually the different initiatives to move closer together in order to foster the overall development of the market, not only in quantitative terms but also in qualitative terms as we have seen over the last couple of months.

Ulrik Ross, HSBC: I have a dream that governments will suddenly realise that the private sector and the capital markets are extremely important for them to be able to deliver on the COP21 targets that have been set. I also hope that governments globally realise a need to be involved in the green bond market so we can achieve further price efficiency and thereby mobilise better green bond volume, more issuers and more investors to support the development of the sustainable financing market.

I do believe we will stand back in a few years’ time having seen hundreds of billions of dollars coming into the green bond market. That will have a significant impact on society and change lives for millions.

IFR: Gentlemen, thank you so much for your comments.