The previous two weeks have provided more evidence of the speed with which green bonds are gaining traction. Investors in India clamoured to get a piece of Yes Bank’s Rp10bn ($160.5m) green bond on February 16 — the first to come from India. Deutsche Bank, meanwhile, announced its intention to invest €1bn into a green bond portfolio on February 20.
Globally, green bonds are estimated to reach $100bn in issuance by the end of this year, according to the Climate Bonds Initiative, a nonprofit organisation aimed at developing green bond markets.
But despite the growth, there are scant formal rules governing the sector. The framework for the instruments is largely limited to the Green Bond Principles (GBP), a set of voluntary guidelines and recommendations created by a group of financial institutions for the development and issuance of green bonds.
Some on the buyside are now hoping to change this. In a February 10 “Statement of Investor Expectations for the Green Bond Market”, 27 investors — including Axa Group, BlackRock, California Public Employees’ Retirement System and Pimco — voiced their support for the GBP, but called for further definition and clarification in certain areas.
Areas needing further explanation include green project eligibility, initial disclosures, reporting on the green impact of a project and independent assurances.
And while the signatories agree that green bonds should fit within the project categories outlined under the GBP, they are wary of bonds that may label themselves as green without being truly environmentally friendly.
“Certain projects that fall within the GBP categories may benefit the environment in important ways, but also degrade it in others,” said the statement.
They cited energy efficient shale and oil sands operations, large scale hydro and nuclear power generation, and other environmentally disruptive electric power projects as examples.
“The statement articulates a common denominator set of expectations that a diverse group of investors would like issuers to seriously consider if they choose to designate their bonds green,” said Peter Ellsworth, senior manager of investor programmes at Ceres. Ellsworth advocates sustainable business practices and the group which convened the 27 investors to draft the statement.
The good and the bad
“Especially in a developing market, a set of standards may limit the attractiveness and openness of the green bond market,” said Robert Barker, head of CSR and sustainable investment solutions, global markets, Asia Pacific, at BNP Paribas. “But on the other side, some would say that this is more of a cause for developing the market in the right way.”
Advocates of standardisation say that it would allow investors the ability to make quick and clear decisions as to which investments are truly green.
Investors do not always have the skills to be able to do environmental due diligence, argued Sean Kidney, chief executive of the Climate Bonds Initiative. “Standards allow for comparability and fast trading, which is essential for growth and development of the green bond market,” he said.
He added that they would also prove beneficial to issuers , ensuring that the bonds they label as green meet a certain set of expectations.
“They want to issue with the comfort of knowing that they are within the standards, and will not be attacked by nongovernmental organisations or activists for not being green,” he said.
But those who feel that creating green criteria could hinder the growth of the green bond market say that these efforts could restrict project diversity and innovation.
“We prefer greater and improved reporting on impacts instead, because the challenge of climate change is so great and the need for innovation is so immense,” said Christopher Wigley, senior portfolio manager at Mirova Responsible Investing, a division of Natixis Asset Management. “We don’t want to hold the market back in any way.”
Another concern about setting firmer standards in the green bond market is that it would reduce competition and create a more generic product.
“The initiatives that are out there now are good [and are] creating new and competing ideas,” said Matt Christensen, global head of responsible investment at Axa Investment Managers Paris. “If you put that stamp on it too quickly you risk slowing down the market too quickly.”
Despite the areas of debate, most investors agree that it is very difficult to pin down a hard definition of which projects could be considered green, because there is so much disparity between investor profiles.
Fund managers have different criteria that define projects they consider green. For example, some investors would count nuclear energy projects as green because they reduce the use of fossil fuels, while others would say that the nuclear waste created cancels out any positive environmental impact.
The rationale for investing in green bonds, in particular, is also varied among investors, and not all managers are investing for environmental reasons.
"We have portfolios that are only green bondholders and others who have invested in green bonds because of the credit, and the green part is an additional social benefit,” said Ashley Schulten, a New York-based portfolio manager at BlackRock.
Impact reporting
Meanwhile, issuers look to organisations like Cicero or Vigeo for independent verification on the environmental impact of the underlying projects and external audit firms for financial tracking. Both financial and environmental tracking are recommended under the GBP.
But the effect is that these verifications are not directly comparable, and each organisation has its own means of evaluating greenness.
As a result, investors say guidelines and standardisation around impact reporting by issuers are more likely to emerge than a set of eligibility criteria.
“I don’t think we will have a one stop source of verification or impact reporting source,” said Schulten. “I think we may eventually see a threshold with an average means of comparing impact, based on minimum impact reporting and [greenhouse gas] emissions, which could be echoed and be transferred from project to project.”
Such efforts to create a comparable evaluation may look like Mirova’s model for comparing green bonds.
Wigley explained that Mirova has its own in-house team of environmental, social and governance (ESG) analysts who categorise the green projects into benefit areas such as climate change, biodiversity or resources. The analysts then determine environmental effects of the projects and rank them numerically on a sustainability scale, as well as on impact level: significant, high, low, or negative.
Mirova also has a set of financial analysts evaluating investment in the bonds from a financial perspective.
But for all the discussion, any changes could be a long way off. Although the market has grown a lot, green bonds are still new. The GBP, for example, have only been around for a little more than a year. Investors are not expecting a timetable for further standardisation very soon.