Green bonds: it’s time to sort out the Guidelines from the Standards.

It’s fitting that a major conference on green bonds will take place in Paris today (January 28): Link
French, majority state-owned energy utility, EDF, set the market alight in November 2013 by issuing a €1.4bn, 7.5-year green bond: the biggest to date and the first in euros by a large corporate. Institutional investors queued for an allocation and the bond was twice oversubscribed: Link to RI story. EDF said the proceeds would finance renewable energy projects by subsidiary EDF Energies Nouvelles [New Energies].
November was the month green bonds hit environmentally friendly paydirt. Bank of America (BoA) came to market with its own $500m (€363m) three-year green bond to finance renewable and energy efficiency projects. Swedish property firm Vasakronan pipped EDF by a few weeks to issue the world’s first corporate green paper, raising SEK1.3bn (€14.5m) from the sale, which it said it would go toward new energy-efficient housing. In the same month, Dutch development bank FMO issued its first triple ‘A’-rated “Sustainability Bond,” raising €500m from investors to fund an array of green projects, adding to a healthy pipeline from transnational development agencies such as the World Bank, the International Finance Corporation (IFC), and the European Bank for Reconstruction and Development (EBRD). The European Investment Bank added to the tally in January issuing two climate bonds for over $800m. The bumper start to the year prompted the Climate Bonds Initiative (CBI), a not-for-profit, to estimate that 2014 issuance could be double that of the approximately $10bn issued in 2013. At Davos last week, World Bank chief Jim Yong Kim called for developing a $50bn green bond market by 2015.
All the ingredients are there: large development organizations, corporate green bond issuance, keeninvestors (notably those with RI/sustainability interest), interest rates akin to traditional paper, and green/sustainable credentials to boot! Since the EDF issue, investment banks have been busy marshalling their teams on the green bond theme. In the all-important rankings that get banks salivating, SEB, Bank of America Merrill Lynch, Morgan Stanley, Crédit Agricole and JP Morgan, have so far been the biggest underwriters of green bonds, according to CBI. And there’s hardly an environmental conference in the last few months that hasn’t heralded green bonds as the new paradigm to finance the looming clean energy requirement if governmental green targets are to be met.
What’s not to like?
Except the thorny matter of verification that green is really green….
The CBI, which came out of the Network for Sustainable Financial Markets, and has championed the market development of green bonds, has been keen to promote a set of independent standards to ensure that the projects financed by green bonds are genuinely environmentally beneficial. In December 2010, it launched the Climate Bond Standard and Certification Scheme to ensure that project bonds for renewable energy generation or green portfolio bonds could be labelled as ‘climate bonds’ and linked with low-carbon activities, without compromising on the normal credit ratings of the issuer. Speaking at the RI Americas conference in New York in December, Sean Kidney, CEO and co-founder of the CBI, said the green bond market would need to step up its verification efforts to grow seriously: “We need to ensure that there are standards in this market,” Kidney said. “We need transparency of the underlying assets.” The CBI predicts that governments could step into the green bond space in a big way via issuance and tax incentives, and that development possibilities were
numerous. Kidney noted that in 2015-16, the World Bank would provide credit enhancement for major world cities interested in issuing green bonds. But he warned that a green-washing scandal could thwart that development, just as when biofuels were pilloried for advancing energy over food in poor countries. Public scandals are difficult to contain, and investment banks have not been in public favour since the financial crisis. Back in that November 2013 issuance flurry, NRW.Bank, the development bank for the German state of North Rhine Westphalia (NRW), issued a €250m four-year bond to fund environmentally friendly water and energy projects in the state. The bond is rated triple ‘A’ and pays a coupon, or interest rate, of 0.75% per annum. According to the bank, some of the bond’s proceeds will be used to restore the Emscher river and to overhaul dams and water treatment plants. Other proceeds will be used to promote energy efficiency among NRW companies as well as electric mobility. NRW.Bank said some of the bond’s biggest buyers were sustainable investors from Germany, France, the Netherlands and Switzerland. However, the CBI noted that it was “unfortunate” that NRW.Bank issued the bond without having it officially certified as green, although it pointed out that the bank introduced all the projects to be financed during the roadshow for investors. Earlier this month, 13 of the biggest banks underwriting green bonds came out with The Green Bond Principles, voluntary guidelines that they said could help investors verify that the projects being financed in the $14bn market really are green. The banks said the guidelines would prompt issuers to designate, disclose, manage and report on proceeds: “They are designed to provide issuers with guidance on the key components involved in launching a green bond, to aid investors by ensuring the availability of information necessary to evaluate the environmental impact of their green bond investments, and to assist underwriters by moving the market towards standard disclosures which facilitate transactions.”The CBI welcomed the guidelines, noting that they made the important distinction that green bonds are about the asset financed, not the company issuing the paper. It said the Guidelines underpinned the transparency and the green credentials of the assets being financed. But there’s more to be done, it said: “We now need clarity about what really is green – what’s important to environmental protection and addressing climate change,” said Kidney. The CBI said criteria would be best driven by investors and NGOs, based on evidence from environmental scientists, and with third party verification to provide investors with independent assurance. Speaking at the RI Americas conference, Christina Kusoffsky Hillesöy, Head of Communications and Sustainable Investments at AP3, the Swedish government pension buffer fund, said the fund embraced green bonds in 2008 when the World Bank called with information about the new instrument. In the two years, prior, she said, AP3’s directors had been struggling with the question of how to integrate ESG into their fixed-income portfolio. So far, AP3 has invested about 5% of its fixed-income portfolio in green bonds. Kusoffsky Hillesöy said that in the first few years of green bond investment, AP3’s managers worried that the bonds’ underlying projects weren’t sufficiently green, but added that they had been encouraged by the emergence of third-party verification systems in recent years via the World Bank, the African Development Bank, and Cicero, the Oslo-based Centre for International Climate and Environmental Research: “It’s important that banks have a process in place, and that they report on it, and that they have some sort of verifier,” she said. At the same event, Mike Manning, Executive Director of Capital Markets at the Ontario Financing Authority, said it would be issuing its own bonds in the second half of 2014, with the expectation that the process would take 18 months. Like other bonds issued by the province, the green bonds will have the full faith and credit of Ontario, Manning said, and their proceeds will fund environmentally friendly projects. The Financing Authority plans to organize
a sub-portfolio to manage the proceeds of the issues, and invest those short-term until they’re devoted to green projects. Manning said that he and his colleagues would like to issue their green bonds to the domestic Canadian bond market, and they’re holding out particular hope that major Canadian institutional investors will be interested. (“International investors are also key,” he added, “and they’re often more advanced in the SRI process.”) He added that the Financing Authority is also exploring issuances of green bonds tailored to retail investors—but that’ll be “down the road,” he said. Investor interest is clear, as is issuer development, but the standards issue has yet to firm. The question that begs is why the investment banks have developed their own ‘guidelines’ – a relatively soft approach – rather than sign up to the CBI’s standards, or develop something with governmental/inter-governmental bodies.Voluntary guidelines are not standards. That said, the banks have said they are “supportive” of certification of Green Bonds against fully developed and vetted standards, while noting that “at least one or more standards” for use by accredited third parties to certify green bonds are in development. For the moment, the banks and organisations like the CBI are roughly on the same page, keen not to stifle the startling growth of the green bond market by getting bogged down in whether guidelines or standards are the right approach. A successful market breeds opportunists as well as opportunities – especially in the green space – and some form of broadly agreed quality benchmark needs to be agreed before the first green bond scandal materializes, as it surely will.
Today’s Paris conference is a good place to further that process.