Until 2018, sustainable finance was unregulated, except in China, but the European Union has pushed very hard and fast to start regulating the market, both to deter greenwashing and to encourage the shift of capital to sustainable activities.
There is great interest in sustainable finance in the Middle East and North Africa, and a number of initiatives going on to promote it, including in the United Arab Emirates, but it is clear that market participants are looking to the example of Europe, where regulation is being implemented more forcefully.
MENA market participants would welcome the regulatory push, partly because they believe deficiencies in regulation on transparency and reporting may be hindering the growth of the market.
This discussion has been consuming financial markets in recent years, as banks and issuers alike struggle to come to terms with the intricacies of what "going green" actually means. Several bankers told GlobalCapital last week that they had widely divergent views about the incentives involved in sustainability-linked loans.
At the Euromoney Sustainability MENA Conference in Dubai on Tuesday, experts discussed the obstacles, such as this, that are facing investors and companies wanting to push forward consciousness of sustainability in financial markets.
“The ultimate driver [of sustainable finance] will be regulatory action to provide standardisation and level the playing field for issuers,” said Farnam Bidgoli, head of sustainable bonds, debt capital markets EMEA, at HSBC. “That includes guidelines where corporates commit to a level of disclosure that involves both regulators and local investors. Doing that will help to create a standard framework for other corporates to act on.
“Data quality and consistency are the focus of discussions when it comes to ESG issuance... There is a key question about whether standardisation around data requirements need to come from firmer regulation or from voluntary standards.”
This applies both to ordinary corporate reporting and to efforts to produce specific ESG financings such as green bonds and sukuk.
“There needs to be a push behind regulation and legislation to stimulate market issuance,” said Jean-Philippe Bonsaudo, private sector partnership manager at the World Green Economy Organisation.
The centrepiece of EU regulatory efforts is the Taxonomy of Sustainable Economic Activities, which is to define what sustainable means for the purposes of financial markets.
“Capital markets grow best in an environment of disclosure and transparency, so certainly better data and metrics will help both companies and investors,” said Anna-Marie Slot, global sustainability partner at Ashurst, the law firm, in London.
Standards needed
Most borrowers intending to issue green debt usually create a company-wide or project-specific sustainable debt framework, obtain an ESG rating or opinion from a provider and engage banks to arrange a loan or bond issue. For some borrowers, that is fairly straightforward.
Majid Al Futtaim, the UAE property company, for example, established its sustainable financing framework last year and then issued two green sukuk — the first corporate deals of its kind in the region. But for other companies, including smaller ones, that process is riddled with confusion about how much work is needed.
"There is a huge data problem in the market," said Bidgoli at HSBC. "Asset managers are reliant on information such as certificates and regulatory frameworks. Therefore, the onus falls on issuers to meet these requirements, which is hugely time-consuming. Globalised ESG disclosure standards are therefore needed. It would mean that issuers wouldn’t need to spend all their time drafting sustainability reports to gain the trust of investors in Europe."
Sarmad Mirza, executive director of debt capital markets, MENA, at Standard Chartered, also said he thought the Middle East would do better to use global standards, if necessary with modifications to take account of local needs, rather than devising its own standards.
The US-based Sustainability Accounting Standards Board is producing standards companies can use to report on the sustainability of their activities.
“If issuers do not upgrade their reporting on ESG factors and begin communicating how they approach different risks they are exposed to, they will essentially be left out of the wheel of funding,” said Mohieddine Kronfol, chief investment officer, global sukuk and MENA fixed income at Franklin Templeton Investments.
The obstacles facing issuers have left some in the market with low expectations for growth in green securities issuance.
"I do not see it being a standout year for green issuance in MENA," said Bashar Al Natoor, global head of Islamic finance at Fitch Ratings in Dubai. "We will see momentum built, but I do not think the green sukuk will become a significant part of the sukuk industry in the medium term."
Is it worth it?
However, even for borrowers that manage to wrap their heads around the complexities of entering a new market, raising green debt is not necessarily appealing.
“Many emerging market borrowers have more pressing concerns in terms of accessing capital markets than looking for sustainable products,” Vladislav Chiriac, head of CEEMEA loan syndicate at UniCredit. told GlobalCapital last year. "Issuing an ESG loan requires more work and administrative effort on the part of the borrower. The costs they incur through auditing and reporting means that there is not enough of an economic benefit for some borrowers — and when there is, it is marginal.”
Pricing is also a concern for bond issuers. "There is no clear evidence yet of issuers benefiting financially from issuing a green bond or green sukuk," said Al Natoor at Fitch. "The region does not have a track record with this product that indicates whether it helps with the pricing or volume."
With so few green bonds and sukuk having been issued in the Middle East, there is not much evidence to go on. But in Europe, it is normal for issuers to get larger order books and tighter pricing with green issues, and bankers have recently become more comfortable referring to these experiences and telling issuers about them.
"There is no way to tell an issuer they should commit to more responsibilities such as reporting doing a green bond as opposed to doing a conventional bond, unless there is a pricing benefit on offer," said Bidgoli.
“The main challenges [facing ESG-linked debt issuance in MENA] remain awareness of the process and pricing around green and sustainability-linked debt issuance. There remains a sense that it's an onerous process with pricing implications,” said Slot at Ashurst. "Given how recently the market has developed, the universe of corporate green bond offerings is not huge, but we've seen pricing tighten in the market."
Alberto de Paoli, chief financial officer of Enel, explained at the conference that the Italian electricity company had created a new instrument, the sustainability-linked bond, which it introduced with deals of $1.5bn in September and €2.5bn in October, precisely because "sustainable finance deserves a lower [cost] of debt - but a green bond does not do this".
Enel's bonds carry a 25bp coupon step-up that will be triggered only if Enel fails to hit targets for making its electricity generation more sustainable. Investors liked the structure so much they bought the bonds an estimated 10bp-20bp tighter than the yield that would have been required on Enel's ordinary debt.
But ultimately, Enel hopes the market - and the rating agencies - will recognise the value of its sustainable business model as an enhancement to its credit, so that all its debt will trade at a tighter level.
From that point of view, the purpose of issuing green and sustainability-linked debt is partly to draw investors' attention to a sustainability story that was always there.
One banker based in the GCC said: “Yes, doing a green bond or even a sustainability-linked loan requires more reporting on the part of the borrower, but it’s a small price to pay when we’re talking about the benefits that going green has on a company and its image.”
Mirza at Standard Chartered said at the conference that he had begun to notice bond investors being much more interested in the sustainability performance of issuers when they were marketing ordinary bonds - not green-labelled securities. But that was particularly the case for issuers like Majid Al Futtaim that had issued green sukuk, highlighting their achievements.