Dorry Price of IEMA Futures examines the growing market for green investments
The ‘green bond’ market emerged more than a decade ago in an effort to put the global bond market to work in financing the transition to a greener economy. The World Bank launched its green bonds programme in 2007, and the European Investment Bank launched a Climate Awareness Bond programme the same year. Over time, green bonds have become an increasingly meaningful avenue for financial markets to support, and in many cases enable, environment-related projects, including renewable energy infrastructure, lower-emission public transportation and more sustainable waste management.
The expansion of the green bond market has tracked the rise of the sustainability agenda through initiatives such as the Paris Agreement and Sustainable Development Goals. According to the Climate Bonds Initiative, the aggregate green debt market stood at US$257bn at the end of 2019 and is projected to reach US$350bn by the end of 2020. This includes both green bonds and green private loans.
A body of voluntary commitments has been developed to provide integrity to the green bond market. These seek to create accountability through target-setting and reporting, with the aim of avoiding greenwashing and fostering trust in the impact of investing in green bonds.
“It is likely that green investments will become more formally regulated in the future”
The United Nations Principles for Responsible Investment (UN PRI) has more than 3,000 signatories from institutions representing some US$90trn of assets under management. It sets out principles for investment decision-making and ownership practices relating to sustainable finance. The International Capital Market Association has also published Green Bond Principles (GBPs) covering selection criteria, the management of proceeds and outcome reporting in order to encourage best practices.
Given their voluntary nature, investors may find these commitments insufficient when evaluating whether an investment product will successfully address the environment-related issues on which it claims to focus. This is where certifications such as the Climate Bonds Standard (CBS) are proving valuable. The CBS requires a prospective bond issuer to appoint an approved third-party verifier to ensure the bond satisfies the standard. The standard uses criteria based on science-based targets to determine whether the relevant bond is consistent with a 2°C warming scenario. The hope is that market participants can adopt a consistent approach to marketing and comparing green bonds.
As these frameworks and certifications gain wider acceptance, it is likely that green investments will be more formally regulated in the future. The EU taxonomy regulation, which came into force in July 2020, is one of the clearest efforts in this direction. The regulation broadly aims to create a system for classifying economic activities based on specific environmental criteria (including technical screening), as well as to encourage more detailed environment-related disclosures to investors. If the regulation proves successful in practice, it might serve as a template for other countries wishing to formulate more legally binding sustainability requirements.
The impact of COVID-19
COVID-19 has called into question the resilience of the market for green investments. Will the fallout from this pandemic cause issuer supply or investor demand for these products to fall as economic recovery is prioritised above the sustainability agenda? The answer remains to be seen.
It is, however, encouraging that the health crisis wrought by COVID-19 has resulted in a new type of bond: the ‘social bond’. Social bonds are intended to finance projects that place social sustainability at their heart. Should they find an enduring market, we can expect the emergence of standards designed to benchmark social sustainability that are informed by the standards already developed for green bonds.
We may, in time, discover that COVID-19 has shone a light on negative externalities of all descriptions. If it does, it could bring even greater relevance to ESG issues and ensure that green investments remain an important theme in financial markets during the uncertain period ahead.
Dorry Price is a sustainability consultant at DNV GL and sits on the IEMA Futures Steering Committee.