Moment of truth

IFR Asia - Asian Development Bank 2016
11 min read
Steve Garton

Climate-sensitive investments are gaining ground in Asia despite a slump in fossil fuel prices. Further development, however, will depend on convincing investors that green finance can pay off.

In Paris last December, 195 countries agreed on a landmark global plan to tackle climate change by keeping the average increase in global temperature to below 2 degrees Celsius.

The pledges from the United Nations Climate Conference, known as COP21, require all signatories to outline their own specific plans to address emissions and report regularly on their progress. Developed nations will make at least US$100bn of climate financing available each year from 2020.

The world’s first legally binding climate contract came shortly after world leaders agreed to work towards 17 sustainable development goals (SDGs) at the UN Sustainable Development Summit in September.

“Last year was an important year for the global development community because of the COP21 and the SDGs,” said ADB President Takehiko Nakao.

“Asian countries have made a commitment to reduce emissions under the COP, and we should support this.”

“Capital market financing needs – combined with rising demand for socially responsible investments, standardization of offerings and the issuance of benchmark-sized deals that are effectively priced – should increase green bond issuances for years to come.”

Indeed, the first country to submit its nationally determined contribution plan was Papua New Guinea, also one of the ADB’s members. The Paris framework was due to be ratified in New York on April 22.

High-level agreements, however, are no guarantee of action. Given the scale of investment required, Asia’s ability to finance climate-sensitive projects will need the full support of both the public and private sector.

That will be far from straightforward. Asia lacks the dedicated green and responsible investment funds that are growing fast in Europe and the US, and many of the region’s governments have a history of taking the lowest-cost infrastructure option over the most environmentally sensitive one.

While previous rounds of climate talks have led to criticism that developing nations are not doing their bit, Nakao believes that attitude has changed. Even with coal and oil prices near multi-year lows, he sees a strong commitment to action.

“Asian countries are so keen on this issue, because they are so susceptible to climate change,” he said. “It’s also related to pollution.”

China, Asia’s biggest source of carbon emissions, has made climate action a key part of its latest five-year plan, agreed at the National People’s Congress in March. The development of a green financial system is a central tenet of that initiative, with efforts already underway to promote Green bonds, a green rating system, stock index and carbon trading.

China’s central bank is co-chairing a green finance study group with the Bank of England, seen as a focus area of its G20 presidency.

As an example of China’s commitment, Nakao cites a US$300m ADB loan to support anti-pollution activities in the Beijing-Tianjin-Hebei area – China’s first policy-based loan from the development bank.

India has also pledged to expand solar energy capacity to 100 gigawatts under Prime Minister Narendra Modi, who has made renewable energy a focus for his government.

The first big project, however, is up in the air after US solar giant SunEdison, which won the tender for a 500MW solar plant last year, lurched towards bankruptcy protection in April.

Private financing can be a problem, especially in early-stage technologies, but project finance specialists believe the funding gap is narrowing, easing pressure on public sector support.

“These technologies are expensive, clunky and subject to significant improvements year-on-year, but if nobody invests in the first-generation technology then the R&D process grinds to a halt,” said Christopher Thieme, director for infrastructure finance in the ADB’s private sector department.

“Recent solar projects, however, have been almost at parity with the cost of fossil fuels – at least before the oil price crash.”

Greener markets

Recent financings point to some encouraging progress in the capital markets. Green bonds are gaining traction in Asia, with private sector companies such as Hyundai Motor turning to the format to diversity its funding sources – in this case to support sales of hybrid vehicles.

Lenders including ANZ used the label in 2015 to refinance their portfolios of loans to green projects, joining public sector banks from South Korea to India.

But it is China that holds the greatest potential for green debt financings, given the scale of the country’s ambitions.

China’s green finance committee, championed by Ma Jun, the central bank’s chief economist, has said that the country needs to invest Rmb2trn (US$320bn) each year in climate projects.

The People’s Bank of China published new rules in December to promote green bond issues from policy banks, commercial banks and other financial institutions.

Individual deals are getting larger now that China’s onshore market is open for business.

Bank of Communications said in March it plans to issue up to Rmb70bn of Green bonds in the interbank market by the end of next year. Shanghai Pudong Development Bank raised Rmb20bn in December. Industrial Bank issued Rmb10bn in January.

It’s not just banks, either. Hong Kong-listed Concord New Energy Group has become the first non-financial company to register a Green bond programme, planning to offer Rmb500m of medium-term notes in the interbank market. China Development Bank is arranging the deal.

Concord plans to use the proceeds from the initial issuance for three projects on solar energy and two on wind power, pointing out that all these satisfy the requirements under the green bond programme.

At a forum in February, Ma Jun said the National Association of Financial Market Institutional Investors planned to publish guidance on Green bonds from non-financial issuers.

Local markets elsewhere have shown some interest, notably with the refinancing of the Tiwi-Makban geothermal complex in the Philippines. (See below.)

Questions remain over standards and reporting requirements, especially as China joins the market. Analysts note that projects that count as green in China may not do so elsewhere.

Rating agency Moody’s in March launched a green bond assessment service, which it said aimed to promote transparency in a market where “green bond practices have become more varied”.

“Capital market financing needs – combined with rising demand for socially responsible investments, standardization of offerings and the issuance of benchmark-sized deals that are effectively priced – should increase green bond issuances for years to come,” said Matt Donohue, a Moody’s senior vice president for global product management.

Beyond bonds, private investors are coming round to the idea that green industries have a brighter future.

Mark Fulton, a former Deutsche Bank economist and an advocate of green finance, said at a Credit Suisse conference in Hong Kong in March that advances in renewable energy technology threatened to leave investors with “stranded assets”.

“Oil and gas companies expect to have time to adapt, but stock markets are quicker than that: once they sense a change is coming, stock prices will fall and their cost of capital is going to go up,” he said.

Falling global coal demand, stricter environmental controls and a glut of natural gas have pushed big miners, including the second-largest US coal producer, Arch Coal Inc, into bankruptcy protection over the past year.

Peabody Energy Corp, the world’s largest privately owned coal producer, filed for US bankruptcy protection on April 13 in the wake of a sharp fall in coal prices.

Multilateral roles

Multilaterals such as the ADB can provide some support, but governments will need to broaden their search for funding if they are to meet their SDG targets.

The ADB plans to double its support for climate finance to US$6bn by 2020, devoting around 30% of its entire financial assistance to tackling climate change.

It also hopes to play a major role in mobilizing investment from other concessional funds, building up to managing a share of the US$100bn annual commitment under the COP21 agreement from 2020.

The ADB won accreditation from the Green Climate Fund, a US$10bn initiative based in South Korea, in the first half of 2015 – the first multilateral lender to do so. Though some believe progress on documentation has been slower than expected, the GCF says it is on track to approve US$2.5bn of projects in 2016.

A total of 33 institutions are now accredited partners, including private sector lenders HSBC and Credit Agricole. GCF funds can be used as equity in supporting climate projects, opening a door for multilateral and commercial lenders to provide additional leverage.

In its first round of approvals, the GCF approved a US$31m grant for a water management project in Fiji in November, which is also set to receive a US$68m ADB loan.

The US$5.6bn Clean Technology Fund, which operates under the global Climate Investment Funds framework, has approved funding for India, Indonesia, Thailand, the Philippines and Vietnam with a focus on renewable energy, including geothermal, solar and wind generation.

ADB-backed private equity firm Asia Climate Partners is also looking to ramp up its investments in clean energy and resource efficiency projects in China and South-East Asia. It recently took a stake in Indian cold chain logistics company ColdEX Logistics, helping fund an expansion of its fleet of refrigerated trucks.

ADB, Japan’s Orix and Dutch fund Robeco Asset Management are joint sponsors of the ACP fund.

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Moment of truth