Six Things to Know About Green Bonds
By Denise Odaro
Financial markets are seeing green these days, in more ways than one. Hardly any finance or technology conversations are being had without climate change featured in some manner. In this blog post, I have summarized the salient points on one of the most talked-about market products — green bonds.
What are green bonds?
A green bond, according to the Green Bond Principles (GBP), is any bond instrument that exclusively finances projects that contribute to environmental objectives. The GBP is a framework developed in 2014 by a group of banks, bond issuers, investors and other practitioner institutions. The framework is updated to keep in step with market developments. Its objective is to clarify the steps to structure a green bond or to assess its alignment to best practices. IFC chairs the governance committee of the GBP. There are other similar frameworks, and the European Union is currently undertaking to enact a Green Bond Standard that is modeled on the GBP, except for the mandatory requirement that green bond issuers must acquire an independent review of their green bond programs. An independent review is optional under the GBP.
Why are green bonds topical?
Just before Christmas in 2015, I was in Paris for the COP21, also known as the 2015 Paris Climate Conference. I recall the frenzy when the outcome was attained — after previous failed attempts, 190 countries finally reached an agreement on curbing climate change. The agreement was to limit warming well below 2 degrees C and ideally 1.5 degrees C above pre-industrial levels.
As it stands, the world is already suffered disastrous impacts from global warming caused by the hike in CO2 and equivalent gases in the atmosphere. At 1.1 degrees C warmer than pre-industrial times, we are witnessing melting ice to extreme heat waves and unpredictable storm patterns, illustrating the urgency of abating temperature increase to no more than 1.5 degrees C.
The present findings indicate that, to meet the 1.5 degree Paris agreement’s goals, the world will need to reach net-zero emissions by reducing CO2 emissions to net-zero on average by 2050 and total greenhouse gas to net-zero between 2063 and 2068.
We have been witnessing changing attitudes toward sustainability from investors for a number of reasons: Investors have increasingly become aware of the risks of climate change to their portfolios and, through mechanisms such as the Task Force on Climate-related Financial Disclosures (TCFD), they are also beginning to report on such risks. Additionally, stakeholders are pressuring the investment community to employ heighted environmental, social and governance (ESG) policies.
Green bonds address some of these changes to the new landscape. Firstly, green bonds offer investors a platform to engage in good practice, influencing the business strategy of bond issuers. It provides a means to hedge against climate change risks while achieving at least similar if not better returns on their investment. A consequence of the momentum in this area is that because green bonds allocate capital to environmentally positive projects, it results in such projects being priority to receive investments. This reallocation of capital on a large scale then incentivizes eligible green projects to be created. The increased demand for green financing investments could mean less allocation to non-green projects and make it costlier to finance. In this way, the growth in green bonds and green finance also indirectly works to disincentivize high carbon emitting projects.
What role has IFC played?
When I joined IFC in November 2012, green bonds were virtually unknown. I started out working with my team on a strategy to issue a $1 billion bond in 2013, the world’s largest green bond issuance at the time. 2020 marks ten years of IFC’s green bond program and we have now issued over $10 billion of green bonds in over 20 currencies that have gone toward 221 projects expected to reduce emissions by 21.8 million metric tons of CO₂-equivalent per year, equivalent to CO₂ emissions from 2.5 billion gallons of gasoline consumed.
Beyond our green bond issuance, IFC channels investments through our clients to support climate-related credit lines and projects. IFC typically acts as an anchor investor for our clients who are first time issuers, preparing them for future and repeat green bond issuance.
We have also founded two active green bond funds, raising over $2.5 billion, for investment in financial institutions and the real sector in emerging markets: The Amundi Planet EGO Fund, the world’s largest green bond fund in emerging markets, and the HSBC Real Economy Green Investment Opportunity Fund, which is focused on the real sector.
To share green bond expertise, IFC facilitates the Sustainable Banking Network, and supports financial sector regulators and industry associations in emerging markets to develop green bond frameworks and catalyze local issuances.
A vital piece of our green bond strategy is the provision of advisory services on green bond issuance and impact reporting in line with the Green Bond Principles and this is done through several avenues including the Green Bond Technical Assistance Program, which complements the EGO Fund.
What lies ahead for green bonds?
2020 was a pivotal year in many ways, with the onset of the coronavirus pandemic. In many cases, COVID-19 projects have taken priority over climate change. In his remarks at the Fourth Ministerial of the Coalition of Finance Ministers for Climate Action, World Bank President David Malpass noted that there is a chance to set out on a greener, smarter and more equitable development path. Making the right investments now can unlock short term gains — jobs and economic growth — as well as deliver the benefits for people and communities of cleaner air and water, healthier oceans, more resilient cities, and more sustainable food and agriculture systems. Low-carbon stimulus programs can drive new jobs that are sustainable, inclusive and equitable.
At IFC, for the tenth anniversary of our Green Bond Program, we convened a wide range of green finance experts to take a temperature reading on green bonds. At the Green Light: What Lies Ahead? event in November 2020, we posed a few questions to participants: Are green bonds doing enough? What needs to be accelerated to achieve the Paris climate goals? Do we need new types of climate bond labels? During a panel discussion, Mindy Lubber of Ceres, Inc. stated that a carbon price is necessary to penalize high carbon emitting businesses. On the matter of whether new types of bonds are needed, Justine Leigh-Bell of the Climate Bonds Initiative emphatically responded “We don’t give a damn what the bonds are called,” adding that it is the credibility of the underlying projects that ought to be the focus. One of IFC’s earliest investors in our Green Bond Program, Eva Halvarsson of Andra AP-fonden (AP2), described green bonds as having been a locomotive for change, adding that maybe a transfer to a high speed train is warranted.
What else can green bonds finance?
There are several recognized broad categories of eligibility for green projects. In general, eligible projects are those that contribute to environmental objectives such as climate change mitigation, climate change adaptation, natural resource conservation, biodiversity conservation, and pollution prevention and control.
One area of note is the global crisis with rapidly shrinking biodiversity. At the Green Light event, IFC Interim Managing Director and Executive Vice President Stephanie Von Friedeburg discussed with the Carter Roberts, President of the World Wildlife Fund their WWF Living Planet Report 2020 , which highlights that wildlife population sizes have dropped by two thirds since 1970, with an average 68% drop in global population sizes between 1970 and 2018. IFC is a member of a coalition to create a Taskforce on Nature-related Financial Disclosure to develop nature-related financial disclosures by the end of 2022. Green bonds can be used to finance biodiversity conservation.
What about transition bonds?
In spite of the growth in “net zero” ambitions declared across the globe, there are not many companies likely to meet the targets of the Paris agreement. The UNEP Emissions Report 2020 found that, despite a brief dip in CO2 emissions caused by the pandemic, the world is still heading for a temperature rise in excess of 3°C. Sasja Beslik spoke at IFC’s Green Light event on Bank J. Safra Sarasin Ltd’s analysis, which focused on past, current and future emissions of 6,000 groups, noting that businesses globally appear on course for a 4 degrees rise.
At IFC’s HQ in Washington, we hosted the Executive Committee of the GBP for a meeting during which The Climate Transition Finance Working Group was founded. The CTFWG were tasked to consider the concept of transition financing in the context of the green bond market. The outcome of the Group’s work is the Climate Transition Handbook published in December 2020. The objective of the handbook is to guide high carbon emitting and hard-to-abate sector issuers to access sustainable bond financing to fund their transition to a low carbon business model. While over a trillion dollars of cumulative green bonds have been issued, there has been hardly any activity from the high emitting sectors. This is precisely where the significant reductions need to be made if we are to achieve our overall objective of meeting the Paris Agreement climate goals of net zero emissions by 2050 and halting global warming to well below 2 degrees.
Capital markets play a crucial role in enabling the climate transition by ensuring the efficient flow of capital from investors to issuers that wish to address climate change and sustainability risks. The fact is that our existing business models need to change. Green bonds are one of the options of sustainable bonds that can reallocate global capital to environmentally positive projects for issuers, including those on science-based pathways to the Paris climate goals.
Denise Odaro is head of investor relations at the International Finance Corporation, a member of the World Bank Group.