The climate finance gap is immense. Annual capital flows are trillions of dollars short of where they need to be and must increase at least sixfold to keep global temperatures to within 1.5°C by the end of this century. The focus on top-down funding needs is understandable — but it often overlooks the critical importance of building local, bottom-up solutions. For banks eager to help retail customers make real progress lowering emissions and improving energy efficiency —funding is not the main hurdle.
“When we look at the challenge of implementing solutions at the local level it’s often not financing that’s the bottleneck,” says Friedrich Luithlen, head of debt capital markets at DZ Bank. “It’s generating viable projects in the first place.”
But many lenders are stuck in a mindset that views the energy transition as just another problem in need of a banking product. Too often the financial sector’s response to the climate challenge is to adapt an existing product and make it slightly cheaper. But a few basis points will not be enough to drive change.
Instead, says Luithlen, the banking sector needs to acknowledge the energy transition as a complex challenge in need of holistic solutions. “We as banks have to focus on building advisory capacity to empower entrepreneurs and retail clients across the board to make the right financial decisions for their specific transition projects,” he says.
One-stop shops
Luithlen points to Jyske Realkredit — a leader in the Danish mortgage market — as a firm that is well aware of the challenges homeowners face when trying to appraise all the options. “When we talk about housing, it quickly gets quite complex because each property is different,” says Christian Bech-Ravn, head of rating and IR at Jyske Realkredit. “There isn’t one simple solution that fits them all.”
Perhaps the key challenge for households is that there are too many unknowns. Clients need to know the renovation options, their potential cost, the financing available and — finally — which firms could actually take the contract. Luithlen highlights local co-op banks in Germany, some of which go beyond pure financial advisory. “They will build up a network of contractors so that they can connect retail clients that want to refit their homes with the right tradespeople, the right architects, the right energy advisors,” Luithlen says. “This is a really worthwhile approach.”
Jyske has formed partnerships with firms that specialise in energy advisory for renovations and shifting from fossil heat sources to renewable. “Banks can create a one stop shop that allows clients to get started with a project right away,” says Bech-Ravn.
Data key to success
This endeavour is not without challenges. Partnering with other companies — many of which can be relatively small — can expose banks to reputational risk. Lenders will have to train staff in ESG and sustainability analysis. But the biggest hurdle is data. In Denmark, EPC scores are so readily available that for buildings where they are not, it is possible to estimate the score based on properties with similar characteristics. Combined with data on heating sources, this allows banks to identify where the buildings that would most benefit from refurbishment or a change in heat source.
“We will typically contact the homeowners and explain we have a partner company that can help,” says Bech-Ravn, adding that the partner company can then refer the client back to Jyske for financing. “We are starting to create an environment where you can provide everything the client needs from one platform.”
But without good data, it can be prohibitively expensive for banks to spend the time and money building relationships and identifying clients. In Germany, banks face a harder time acquiring the necessary information. This, says Luithlen, is an area where policymakers could have a real impact. “Making more data available would help banks provide better advice at the retail level and do a lot of the heavy lifting that’s needed to make the housing sector more energy efficient,” he says. “We need to acknowledge that there is a very strong causal relationship between individual local-level projects and the success of wider energy transition and financing targets.”
The potential benefits to lenders of this new approach is undeniable. Energy efficient renovations are only going to increase. Banks have a chance to get ahead of the curve in bolstering their balance sheets with high-quality sustainable loans. For leading firms like DZ Bank, their home markets already offer a tried and tested method for funding property renovation — the covered bond market.
“Those energy renovation projects are very good from a risk profile perspective, and that should justify attractive interest rates for borrowers,” says Luithlen. “There’s a huge opportunity here to make a real difference in the energy transition. We just need to motivate more banks to start building those local ecosystems.”