Continuing the dive into the world of green investments, this week I’m curious about green bonds.
In this expert interview keywords are stress-testing of investments and business models, different shades of green and the opportunity side of climate change…
For the non-finance-savvy a bond is a debt obligation. A way of borrowing/lending money. A company issuing a bond receive a loan in return, that has to be paid back over time with interest. In a nutshell a green bond is a bond issued to fund projects that have a positive climate and environmental impact. For example, a company that needs funding for a renewable energy project can issue a green bond.
To understand why green bonds are interesting for investors I’ve talked with Harald Francke Lund, who is a specialist in climate finance and the Head of Second Opinions of Green Bonds at CICERO
How would you describe Green Bonds in one sentence?
“Green bonds connect long-term investors with organisations that provide solutions to reduce greenhouse gas emissions and increase resiliency to climate change.”
What made you start working with Green bonds?
“Green bonds are really interesting because it’s about showcasing the opportunity side of climate change.”
What are the 3 main ways Green bonds contribute to the Paris Agreement and the Sustainable Development Goals?
As the three 3 main ways Green bonds contribute towards climate and sustainability objective Lund highlights: i) mobilization of capital to the necessary green investments including in developing countries; ii) capacity building on climate risk and sustainability issues in the financial sector, and iii) it raises capital for both mitigation and adaption projects.
“Green bonds mobilize capital to secure the necessary emission reduction and to prepare for a changing climate such as flooding and sea level rise, drought and other extreme weather events. Green bonds also help investors better understand climate risk and climate costs, and to reduce exposure and avoid losses for investors. Mobilization of capital in developing countries for climate action is another important aspect. That is key to succeeding in achieving the goals of the Paris Agreement (e.g. China and Indonesia).”
Where do you see Green bonds in 20 years?
Lund explains that the green bond market is starting from a low level but that it has huge potential. As investors look to invest their money more responsively and are paying more attention to climate risks as a financial risk, the demand for green bonds has increased significantly the last years. In 2017 the Green Bond issuance totalled $155,5bn according to the Green Bond Initiative. This represents a 78% increase compared to 2016.
“When capital has to change in a green direction, green bonds is a good tool. Whether it’s the solution on long term I don’t know. In the long term we might also be able to put a price on the brown assets. But for the time being it’s a good tool that helps us channel capital in a greener direction and to communicate that there are plenty of opportunities in the transformation to a low carbon and climate resilient society.”
Communicating climate risks in Shades of Green
To price climate risks and opportunities correctly transparency and a robust methodology is necessary, Lund highlights. At CIRERO they use a ‘Shades of Green’ methodology, as a tool to communicate climate risk and opportunities.
“To provide transparency on climate risks to investors – dark green refers to implementation of solutions and projects in line with 2050 climate scenarios already today. While the medium green represent bridging technologies (like plug in hybrid busses). Light green are bonds that fund projects that help us reduce greenhouse gas emissions in the short-term but does not represent technologies or solutions we expect to see in a longer perspective (such as reduced flaring etc.).”
But who decides what is Green?
Lund explains that there is currently no single authority, which defines what is green. The green bond market is a voluntary market, guided by principles agreed by the main participants in the market – the Green Bond Principles.
“I believe providing transparency on shades of climate risk is a better approach than a minimum standard that defines what is green. Standards should facilitate rather than replace the fruitful dialogue between issuers and investor on what is green. Climate risk is a financial risk. In our view creating a common language for investors, scientist and companies is key.”
When I ask how the Shades of Green relate to the recommendations from the Task Force on Climate-related Financial Disclosures (TCFD) from June last year, Lund explains that one of the key recommendations from the Task Force is the need for investors to stress test their investments. He explains how the shades of green help them do just that.
“The Shades of Green help investors understand if the projects they invest in are viable on short, medium and longer term.”
Another conclusion from the TCFD is the need for companies to stress-test their business models, and for the companies implementing projects green bonds can help.
“When you in your reporting to investors have to compare your green projects to your fossil projects, it helps you ask yourself: Should I continue to invest in fossil fuel projects in the future? For a car company for example a key question is how fast should they scale up their production of electric cars vs. downscaling production of fossil fuels cars.”
But not only do Green Bonds provide an effective communication channel, he highlights.
“Investors that care about how their money is spent, are investors that believe in your project. This can influence investor relations. When investors believe in a project it’s more likely that they will up-scale investments or re-invest in the future.”
According to the Green Bond Initiative the growth in issuance of green bonds is expected to continue in 2018 and reach a total of $250bn. I’m excited to follow the developments…