SUSTAINABLE FINANCE 2021: Engaging Capital to Drive the Transition July 2021 - Lead Sponsor - Global Capital
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SUSTAINABLE FINANCE 2021: Engaging Capital to Drive the Transition July 2021 Lead Sponsor Junior Sponsor
CONTENTS
Sustainable Finance 2021: This report was written and researched by Julian Lewis, with
Engaging Capital To Drive The Transition the exception of the keynote interview and the roundtable
discussion which was moderated by GlobalCapital
Euromoney Institutional Investor PLC
8 Bouverie Street, London, EC4Y 8AX, UK
Tel: +44 20 7779 8888 • Fax: +44 20 7779 7329
Email: firstname.lastname@globalcapital.com
CEO, Financial & Professional Services division,
Euromoney Institutional Investor PLC: Jeff Davis
CEO of NextGen Publishing, Financial & Professional Services
division: Isaac Showman
Managing Director, Market Intelligence: Timothy Wakefield
Managing Director, AMS: Guy Cooper
VP, revenue & commercial strategy: Thomas St Denis
Managing editor: Toby Fildes
Editor: Ralph Sinclair
INTRODUCTION Contributing editor: Julian Lewis
Editorial product manager: Craig McGlashan
1 Sustainable finance builds
PEOPLE & MARKETS
unstoppable momentum People and markets editor: Richard Metcalf
PUBLIC SECTOR and MTNs
SSA and MTN editor: Lewis McLellan
KEYNOTE INTERVIEW Deputy SSA editor: Burhan Khadbai
6 Fixing the tragedy FINANCIAL INSTITUTIONS
Banking and Europe editor: Tyler Davies
of the horizons Covered bond editor: Bill Thornhill
Bank finance reporter: Frank Jackman
SECURITIZATION
REGULATION Structured and leveraged credit editor: Owen Sanderson
European securitization reporter: Tom Brown
8 Ramping up ESG regulation US securitization reporters: Jennifer Kang, Paola Aurisicchio
CORPORATE FINANCING:
Corporate finance and sustainability editor: Jon Hay
Equities editor: Sam Kerr
DIVERSITY & INCLUSION Syndicated loans and private debt editor: Silas Brown
IG loans reporter: Michael Turner
11 Social dimension brings Senior equities reporter: Aidan Gregory
greater depth to ESG EMERGING MARKETS
Emerging markets editor: Francesca Young
Acting emerging markets editor: Mariam Meskin
Latin America reporter: Oliver West
ESG RATINGS Head of visuals: Gerald Hayes
Deputy head of visuals: Rosie Werrett
13 Tracking the Sub-editors: David Jones
ESG trajectory Cartoonist: Olly Copplestone • smokingbiplane@hotmail.com
Commercial director, Banking & corporate: Richard Lee
Publisher: Margaret Varela-Christie
ISSUERS AND INVESTORS ROUNDTABLE Business development managers:
Daniel Elton +44 20 7779 7305
14 Finance finds the right direction: Ashley Hofmann +44 20 7779 8740
now to reach the right speed Awards
Product director: Christopher Edwards
Head of awards research: James Wilson
Senior awards operations manager: Natalie Smith
SUSTAINABILITY-LINKED BONDS Business operations manager: Barbara Fertalova
23 Linking finance to Marketing
sustainable strategies Claudia Reyes Marquez +44 20 7827 6428
Josh Pearson +44 20 7779 7388
Hind Farina +44 20 7779 8505
Christopher Erasmus +44 20 7779 7343
ISSUER INTERVIEW Customer Success
James Anderson +44 20 7779 8338
26 Verbund: strategic pioneer Customer Services: +44 20 7779 8610
Subscriptions & Licensing
Katherine Tapper +44 20 7779 8612
SUSTAINABLE FINANCE DATA Philip Huntsman +1 212 224 3294
Mark Goodes +44 20 7779 8605
27 Sustainable financing booms Alex Vaughan-Fowler +44 20 7779 7298
as climate urgency rises Directors: Leslie Van de Walle (Chairman of the Board), Andrew
Rashbass (CEO), Wendy Pallot (CFO),
Janice Babiak (Senior Independent Director),
Colin Day (Independent Non-Executive Director),
Imogen Joss (Independent Non-Executive Director),
Lead sponsor Junior sponsor Tim Pennington (Independent Non-Executive Director),
Lorna Tilbian (Independent Non-Executive Director).
ll rights reserved. No part of this publication may be reproduced without
A
the prior consent of the publisher.
While every care is taken in the preparation of this newspaper, no
responsibility can be accepted for any errors, however caused.
| July 2021 | Sustainable Finance 2021
INTRODUCTION
Sustainable finance builds
unstoppable momentum
With sovereign ESG bonds passing a clear inflection point, sustainability- “If credit quality, returns and
linked bonds seeing notable growth and acceptance, and social bonds liquidity have so far been the three
catapulted forward by a key borrower — the European Union (EU) — that most important investment criteria
is also poised to boost the green bonds market with an unprecedented within each sector and product,
€250bn programme, sustainable debt capital markets are reaching a ESG will surely be the fourth,” adds
new peak of activity across the capital structure from every issuer and Menounos.
credit type. So what’s driving the current boom and what will follow it? He notes how internal or external
ESG ratings are already as important
ONCE A MARGINAL 1%-2% of form of use-of-proceeds structure. to credit ratings for many investors.
new fixed income sales, ESG debt Sustainability-linked securitizations “And these drive investment
offerings have now reached a more are on the way too, while sales of mandates, they drive credit lines and
substantial share of as much as 10%, convertible sustainability-linked they drive overall sector and issuer-
according to Moody’s ESG Solutions. bonds (SLBs) have also begun. specific investment appetite.”
The landmark $1tr a year target for While not all investors are equally What investors particularly
green bond sales long called for by comfortable with each of these appreciate about ESG debt is the
NGO Climate Bonds Initiative to meet innovations, a significant proportion additional transparency over and
the global need for climate change of buyers are open to less standard information on issuers’ business
adaptation and mitigation spending ESG debt. If they are comfortable models and strategies they provide,
is now moving into reach. that the borrower’s core strategy (and as well as opportunities to engage,
Overall, new issue volumes have the instrument’s KPIs, if included) Katugampola argues. “Essentially you
risen from $50bn in 2015 to more meets their criteria, they gain access are performing a sustainability deep
than $500bn in 2020, Morgan Stanley to higher returning debt with the dive with issuers when they come to
data shows. 2021 has ramped up potential to enhance their returns. market.”
this exponential rise further with While ESG debt has always
an increase of 100% to date over the featured sporadic instances of
same period last year. higher-return issues (generally “ESG is now a major
“ESG is now a major focus for all from lower rated borrowers), focus for all key
key stakeholders in the market and this expansion across the capital stakeholders in the
will remain a central theme for years structure marks a key development market and will
to come,” says Alexander Menounos, in building the market out. remain a central
managing director, head of EMEA “Investors are keen to see the theme for years
DCM and global co-head of IG market evolve and develop in some to come”
syndicate at Morgan Stanley. of the higher yielding formats and
Morgan Stanley sees the take- instruments. They want to see the Alex Menounos,
off in ESG debt picking up further market develop across the credit Morgan Stanley
from here. “Issuance has more than quality and subordination spectrum.
doubled this year and we expect They don’t want to miss out on
the pace of supply to continue to higher yielding opportunities,” judges However, MSIM insists that it is
accelerate,” Menounos adds. Menounos. not a forced buyer, even though it
holds ESG debt in its portfolios —
Deep diversification Fundamental for investors particularly those under Article 9
Importantly, growth has been ESG debt’s new traction coincides of the EU Sustainable Finance
accompanied by a significant with ESG considerations having Disclosure Regulation (SFDR). “We
broadening of the market. “In recent become mainstream for both equity like the instruments, but if they
months we have witnessed a greater and fixed income investors — and come significantly tight we may
diversification with respect to sectors, increasingly influential. “ESG is a choose to buy regular bonds instead,”
issuers and instruments,” he affirms. fundamental component of how you Katugampola says, though the firm
Besides investment grade credits, invest,” says Navindu Katugampola, is open to buying bonds priced with
high yield borrowers too (both global head of sustainability a greenium if it expects them to
from developed and emerging at Morgan Stanley Investment perform in the secondary market.
economies) are increasingly active Management (MSIM). MSIM believes that all ESG debt
in multiple formats. In addition, “Questions of sustainability and “has its place” and is open to both
the product range has soared far the impact of funds are inherent use-of-proceeds and SLB structures,
beyond traditional senior bonds: in managing risk and assessing Katugampola says. But while it
ESG debt investors have now also valuation,” he affirms, noting that welcomes the market’s acceleration
bought corporate hybrids, financial assessing which companies are best and broadening, it regards bond
subordinated and senior non- placed to benefit from recovery across labels as “in some ways irrelevant”.
preferred bonds, convertible bonds, sectors, industries and countries is a “It’s more pertinent to look under
and even securitizations using some potential source of alpha. the hood. These bonds only have
Sponsored by: Sustainable Finance 2021 | July 2021 | 1
INTRODUCTION
credibility if they help improve the funding strategy to the company of capital. “If you don’t have a
issuer’s strategy.” ESG strategy and demonstrate credible ESG strategy, there is a real
Ultimately, greater disclosure commitment to sustainability,” risk of being left behind. It’s not
requirements of issuers or access Menounos notes. merely a case of extracting a small
to their data in an on-demand way “Most of our work is to try and pricing advantage — it may soon
may make the labelling of ESG bonds advise C-suites around the transition, have a material impact on depth
redundant. But this could still be a around building a credible transition and breadth of investor audience,”
decade away, Katugampola cautions. strategy, around effectively capturing Menounos emphasises.
In the meantime he expects the new opportunities, and using the At high-emissions companies, this
the instruments to continue their capital markets to precisely highlight link is now clear all the way to the
expansion and to serve as a useful those initiatives and commitments,” top. “This is something that in certain
part of issuers’ toolkits. Over this agrees Maxime Stevignon, head of sectors is recognised and understood
period he anticipates a divergence fixed income capital markets for at the C-suite and board level,”
in companies’ cost of capital that France, Belux and Switzerland at Stevignon notes.
reflects the robustness of their ESG Morgan Stanley. This creates opportunities for
strategies and their capacity to Stevignon hails the shift from what he terms “ESG enablers”
manage their sustainability risks. companies’ earlier “tactical” to access investor demand while
Divergence in the availability engagement with ESG. “The shift communicating their leadership.
of capital from investors for some from tactical to strategic is absolutely He cites the recent landmark social
sectors is likely to exacerbate this paramount in what we’ve seen over hybrid bond by EDF, the first
and add to the volatility of their bond the past 18 months, and I’ve been such corporate offering in euros.
spreads and equity prices. quite staggered by the speed at which Already an active green bond and
it has happened. We were discussing green convertible bond issuer, the
Strategic commitment it with clients three years ago, and French utility created a social bond
ESG’s growing centrality for investors no one was really expecting it would framework to highlight the second
makes it central too for issuers change so quickly.” pillar of its ESG strategy — social
seeking to access their capital. “ESG This new emphasis has created a responsibility.
is now becoming critically important strong link between sustainability Proceeds will fund expenditure
for issuers, who need to align their strategy and market access or cost with SMEs in regions across Europe
Sovereigns set sail for ESG
Although the biggest issuers of all — the US, Japan and Uruguay have been especially prominent in this trend,
and China — remain outside the market for now, Asian and EMEA credits like Egypt, Indonesia, Nigeria and
Thailand have featured too.
sovereign ESG debt has gained real momentum
in the past 18 months, as a growing number of Upward trajectory
developed and emerging market issuers have Further growth appears certain as the recent host of debut
endorsed green, social and sustainable bonds as sovereign issuers build out their ESG curves and further
part of their financing options. As a result, investors new names (Spain, for one) arrive too. More broadly, the fact
are seizing new opportunities to engage on national that around 20% of pandemic recovery spending globally
pandemic recovery and net zero strategies and — around $410bn in total — has been green in nature and
targets. an even higher proportion qualifies as social expenditure is
likely to drive volumes up.
THE ARRIVALS OF Germany and Italy this year, to be The development of a sovereign sustainability-linked
followed by the UK in September, Canada before the end of bond (SLB) market could spur additional flows, though this
its 2021/22 financial year and the super-sovereign European product poses multiple challenges for sovereign issuers and
Union (EU) most likely before the end of 2021 too, underscore to date only Uruguay has voiced the intention of offering it
the rapid take-up of green bonds in particular among major (see accompanying SLB chapter for further discussion).
sovereign names. “We think there are several reasons why this market will
The EU, which is poised to become the world’s top green continue to grow,” notes Ana Colazo, head of sustainable
bonds issuer by dedicating 30% of its €800bn-€900bn ‘Next finance for the UK & Nordics at V.E, part of Moody’s ESG
Generation EU’ funding programme to the product, has also Solutions. She cites countries’ Nationally Determined
been key to growth in social bonds. Solely financed with Contributions (NDCs) under the Paris Agreement, as well
labelled social bonds, its €90bn SURE (Support to mitigate as national strategic initiatives against climate change and
Unemployment Risks in an Emergency) programme has action to address social inequalities, as key drivers.
boosted volume in the newer use-of-proceeds instrument “The trends are favourable,” agrees Rahul Ghosh,
significantly. managing director for ESG outreach and research at Moody’s
Moreover, EM names have added valuable diversification ESG Solutions, who points to sovereign ESG bond volume
to the ESG market through their green, social and sustainable of over $40bn since the start of the year — “already well on
offerings. While Latin American issuers such as Chile, Mexico course to eclipse last year’s full-year total”.
2 | July 2021 | Sustainable Finance 2021 Sponsored by:
INTRODUCTION
and the UK to upgrade the company’s sovereigns, particularly those with of whether these short-dated,
nuclear power facilities and develop established ESG programmes, look temporary issuances under social
new clean energy technologies. to proceed on the social bond front bond frameworks will be there in
over the next year or so,” says Ben the long term?” He cautions that
Socialising SSAs Adubi, head of SSA syndicate EMEA “sovereigns and issuers of that
Social bonds are also in focus in the at Morgan Stanley. category of bonds should be mindful,
sovereign, supranational and agency Social bonds raise even more particularly where they already
(SSA) sector. This follows the EU’s questions than their green bond have large green bond funding
near-€90bn endorsement of the counterparts over use-of-proceeds programmes as a starting point
product through its SURE ‘Support and transparency. “Clearly those — we know that investors value
to mitigate Unemployment Risks two elements are more challenging consistency.”
in an Emergency’ programme — an to define and measure on the social (See Sovereign box in the
unprecedented addition of supply to side,” adds Adubi. “So they require accompanying Expansion of
the sector. greater attention — particularly Sustainable Finance chapter for
Although very few sovereigns have around the transparency on the further discussion)
offered pure social bonds in their impact and outcome of social bond
own names, agencies such as France’s programmes.” HY heating up
Cades (Caisse d’Amortissement de One important question is whether The increasing involvement of high
la Dette Sociale) have already raised other SSA borrowers can adopt yield issuers in ESG debt stands out
substantial funding in the social best practice from the EU SURE as a key sign of the market’s growing
format. Recently, the sub-sovereign framework. But a more pivotal issue maturity. “It has been a real sea
Communaute Francaise de Belgique may be long-term commitment to the change. There was a lot of discussion
(CFB) also funded education and product. last year around when the wave of
sports expenditures through a debut “A lot of the social issuance has issuance was going to come, how
social bond. been skewed towards the effects of it was going to come and what it
“It will be quite key to see how the Covid,” says Adubi. “The question was going to look like — and now
At the same time, sovereign ESG debt is broadening. “We that many
are starting to see more development in this market,” Colazo “Governments are emerging
says. “We are starting to see governments issuing consistently looking at a broader markets
— some frameworks, like Mexico’s for example, are mapping strategy for labelled have larger
their whole federal budgets to the SDGs. They are looking issuance to become sustainable
at a broader strategy for labelled issuance to become more more recurrent in development
recurrent in their sovereign debt financing plans.” their sovereign debt challenges that
Ghosh emphasises, though, that “bond issuance is not the financing plans” they need to
end-goal here”. Rather, ESG debt is only “part of an extensive finance.”
toolkit that governments have at their disposal to encourage Ana Colazo, Moody’s ESG
greater flows into sustainable projects, alongside tax V.E Solutions sees
incentives, specific policies on disclosure, or net zero country a combination
targets of which we have seen a proliferation of the last 12 of official sector
months.” support to help EM sovereigns with the workload behind
He cites the UK as an example. The sovereign announced issuing, plus market innovation and investor demand for
its first labelled bonds (both institutional and retail green ‘transition’ sovereign paper, providing a solution.
offerings) as part of “a broader suite of actions”. The task can be substantial, Colazo acknowledges.
This includes changing the Bank of England’s mandate “Issuing a labelled sovereign bond involves bringing together
to explicitly factor in climate risk and the establishment of representatives and information from different government
a technical expert group to develop the UK sustainability departments.”
taxonomy. Most sovereigns that have issued set up a dedicated
sustainable finance working group to co-ordinate the work.
Upping EM momentum This breaks down the national budget, moves different
Despite growing sovereign traction in developed economies budget lines into eligible categories, and determines which
and sporadic activity from emerging markets too, as noted, are large enough to justify inclusion in the framework. Other
one key challenge is bringing more EM sovereigns into the substantial tasks include understanding how KPIs monitored
ESG debt market. None of the BRICS countries (Brazil, Russia, by multiple ministries and international departments could
India, China, South Africa) has yet issued a sovereign ESG be consolidated to provide transparent and clear reporting.
bond, for example.
“Another important area will be how to encourage labelled Social switch
issuance from emerging markets sovereigns with weaker Despite initiatives like the EU’s SURE programme, combined
credit profiles that are most in need of sustainable financing,” green/social sustainable bonds from Luxembourg and others
says Ghosh. “With a few exceptions, this market has been and very significant social issuance from agencies such as
dominated by investment-grade governments, and we know France’s Cades (Caisse d’Amortissement de la Dette Sociale),
Sponsored by: Sustainable Finance 2021 | July 2021 | 3
INTRODUCTION
it’s here,” reports Jane Bradshaw, put great emphasis on ESG. “For
co-head of leveraged finance capital “ESG is a some of the private equity sponsors
markets EMEA at Morgan Stanley. fundamental ESG is a really important internal
Although the bulk of this year’s component of policy matter and a lot of the firms
high yield ESG new issues have been how you invest” now have their own frameworks,”
for industrial, transport and real Bradshaw notes, adding that these
estate companies, a broader array of Navindu can be “quite robust”.
sectors is also showing appetite to Katugampola, In turn, this leads to PE owners
access this form of investor demand. Morgan Stanley encouraging their portfolio
“Essentially every conversation we Investment companies to pursue ESG issuance
are having, whether sponsor-owned Management “not just for purposes of price
business or corporate and no matter and yield”.
what sector, is including a discussion Although high yield names
of both ESG broadly and the benefits could do is really helpful,” she judges. account for a higher share of SLB
or potential benefits on SLBs and Greater clarity on pricing benefits volume (estimated by Moody’s ESG
green bonds,” adds Bradshaw. Given may also bring more new issue flow. Solutions at around 25%) than in
all of that, I think the growth is going “If we are able to evidence to issuers green bonds, Bradshaw sees the
to continue apace and that sector list that there is a concrete pricing longer established format continuing
will certainly start to grow.” benefit in addition to the broader to attract high yield issuers too.
The increasing level of activity benefits of doing a positive ESG “There has been a pretty decent mix
is also helping to draw further trade, that would be helpful as well.” in the year to date and I would expect
issuers. “Having a bunch of concrete A further significant driver in the that to continue. But I wouldn’t
examples out in the market for high yield sector is the influence expect high yield is just going to go
prospective issuers to look at and to of private equity (PE) owners. As down the path of SLBs with use-of-
understand in terms of what others underscored by EQT’s landmark proceeds bonds forgotten about.”
have done and what they as issuers gender-linked SLB, many PE firms Several factors could lead to greater
very few sovereigns have yet issued pure social bonds. Chile governments on ESG and on their climate and environmental
is an ultra-rare exception. plans in a way that wasn’t really possible in the debt markets
Even so, Moody’s ESG Solutions sees “robust potential” even a few years ago,” says Ghosh. “But it is today, not
here, as Ghosh puts it. “If we just think about the nature and least because of the development of green bonds and the
mandate of government expenditure, we see fertile ground opportunity that transparency and reporting on funds have
for growth and diversity in social bonds from sovereign provided for bondholder engagement.”
issuers — particularly in post-pandemic recovery spending.” Transparency is a further benefit, Colazo notes. “For use-
Colazo expects social spending on the green recovery to of-proceeds bonds it is important to keep in mind the level of
feature most heavily, along with social issues highlighted by transparency that they provide to investors on how the funds
the pandemic. These include income inequality and access are being used, and on the impact of those funds. They are
to health care. a tool that provides a high level of transparency to investors
Impact reporting is a significant challenge for sovereign on the results of their investment.”
social bonds, however. “We have a pretty defined and This offers sovereigns the potential to tap into a broader
widely accepted set of indicators for measuring carbon and more diverse investor base. That is particularly relevant
emissions,” says Ghosh. “With social bonds, depending on for EM names.
the projects being financed, impact assessments can be “Institutional investors’ focus on ESG risks and
more qualitative in nature, more challenging to aggregate opportunities in the government space is increasing, and
at the portfolio level or compare from transaction to there is a desire to engage on sustainability issuers either
transaction.” individually or collectively. For now, green bonds provide
Even so, he does not expect this to hold growth back. a certain level of information and commitments to allow
At the same time, Moody’s ESG Solutions sees scope for investors to engage effectively,” Ghosh adds.
sovereigns to show leadership in environmental reporting. Regardless of whether debt is labelled, investors are going
Ghosh notes that the use of proceeds for sovereigns’ to continue wanting to engage with governments around
labelled bonds is already significant in areas such as their ESG credentials and objectives. So might the need for
clean transportation, waste and water management, and labels on ESG debt wither away over time?
adaptation. He anticipates that they may direct more Perhaps, but Moody’s ESG Solutions is doubtful for now. It
financing towards flood mitigation, drought management, sees labelled debt staying a useful instrument for investor
disaster reconstruction and sustainable land use. engagement for some time to come.
“Labelled bonds will remain a pretty attractive tool for
Growing engagement sovereigns to tap into this huge expansion of ESG investing
Engagement on national pandemic recovery and net zero that we are seeing,” Ghosh concludes. “There is still value in
strategies/targets is a key benefit for investors in sovereign the signalling that these bonds provide for a government on
ESG debt. its intentions, particularly given the Paris agenda over the
“Institutional investors are really looking to engage with next 10 years.” GC
4 | July 2021 | Sustainable Finance 2021 Sponsored by:
INTRODUCTION
Even so, in the longer term at least
some banks are looking to commit
all of their funding to green and
social instruments. “There’s already
a couple of institutions that have
announced intentions to meet all
their requirements and funding
needs in green and social format,”
Dozin notes.
He cites de Volksbank of the
Netherlands as an example of a
lender taking this stance.
(See accompanying SLB chapter for
discussion of the challenges of bank
SLBs.)
Currencies coming into view
Observers could be forgiven
for assuming that ESG debt is a
euro-only area, so dominant is
BerlinHyp is, so far, the only bank issuer of SLBs the European single currency in
recent deal flow — a phenomenon
high yield activity in SLBs, however. banks’ senior ESG issuance are underpinned by the European
One is the capacity constraint of their capacity to originate green Central Bank (ECB)’s role as the
companies lacking green or social and social assets and their need for key buyer of much ESG debt in
expenditures for use-of-proceeds MREL (minimum requirements for the currency and which the EU’s
bonds to fund, which SLBs’ use own funds and eligible liabilities)- gargantuan green bonds programme
for ‘general corporate purposes’ qualifying debt. “The capacity is likely to exacerbate.
sidesteps. Another is the significant constraint is firmly on the asset side,” But this primacy does not mean
burden of green or social bond Dozin comments. that other currencies have no activity.
reporting for smaller companies. As a result, sales of ESG bank Within Europe alone, the Norwegian
As the market deepens, any capital are also picking up. While kroner, sterling, Swedish kronor and
indication of one instrument having only one bank — Spain’s BBVA — Swiss franc sectors have all seen flows
a pricing benefit over the other — has issued AT1 debt (the most deeply of corporate and financial ESG new
perhaps because more fund types can subordinated layer of banks’ quasi- issues. So too have the US and, to
buy it — is also likely to influence the equity) in green format, Tier 2 sales a lesser extent, Japanese domestic
skew within overall volume. are finding traction. Recently Spain’s markets — including from municipal
newly-merged Caixabank introduced and other sub-sovereign names.
FIG finding traction Tier 2 social bonds, building on Pockets of activity have been seen
Further high yielding ESG debt is green Tier 2 offerings by a number of in all other regional markets — Asia-
also starting to emerge from the issuers. Pacific, Middle East/Africa and Latin
financial institutions (FIG) sector “Although it has been slower, we America — too. This includes ESG
where banks have begun issuing are seeing the take-up in the capital debt sales by foreign credits, such
subordinated capital in green and space increase and a decent level of as supranationals into Australia’s
social format, along with green senior activity in the tier two space,” Dozin Kangaroo bond market and
non-preferred (SNP) debt — though comments. corporates into Taiwan’s Formosa
some regulatory uncertainty remains (See accompanying regulation sector.
over these products and bank SLBs, chapter for discussion of regulatory This picture suggests that the broad
of which only a solitary issue from an issues around ESG bank capital.) trajectory is likely to be the same for
untypical German credit has yet been A further aspect of capacity all markets. As local investor demand
sold. constraints has been that some builds, even lagging areas such as
“In the MREL space — senior banks have opted to confine all their some Asian countries and other
preferred and non-preferred ESG debt issuance to a single asset emerging markets will eventually see
— we have reached a stage of class, such as SNP. “It’s a matter of more sustained ESG debt supply too.
maturity where European banks consistency and coherence,” says “In years to come, ESG is likely to
can voluntarily choose to issue the Dozin. “The rationale is ‘if we’re going be relevant across all currencies,”
majority or even the entirety of their to be issuing green but we’re going affirms Menounos. While today’s
funding needs in ESG-compliant to be limited in terms of volumes core ESG debt investors in countries
formats, which wasn’t the case before we can raise, we might as well do it such as France and the Netherlands
because it was a nascent asset class,” in one asset class’. This facilitates are typically euro-based or have most
notes Charles-Antoine Dozin, head of comparisons, benchmarking pricing investment capacity in the currency,
capital structuring at Morgan Stanley. and liquidity, and makes the process “it’s only a matter of time before
Increasingly, the only limits on more consistent.” others catch up”. GC
Sponsored by: Sustainable Finance 2021 | July 2021 | 5
KEYNOTE INTERVIEW: MORGAN DESPRÉS, BANQUE DE FRANCE
Fixing the tragedy
of the horizons
Central banks have become integral to the fight against climate change in financial markets.
Participants now expect them to wield their immense influence through many avenues of their
work — economic analysis, metrics, supervision, investment and even monetary policy.
None of this is explicitly in the mandate of any central bank. In the past four years, first a few
central banks and now many have rethought and reinterpreted their mandates, in light of the
realisation that climate change poses an existential threat to our way of life — and hence, inevitably,
to financial and price stability.
The main channel for that rethinking has been the Central Banks’ and Supervisors’ Network
on Greening the Financial System (NGFS), formed in December 2017 by institutions from eight
countries, which now has members from some 70 jurisdictions.
Morgan Després has been centrally involved in that process, as head of secretariat for the NGFS
from its inception until June 2021, when he returned to a full time post at the Banque de France as
director of strategy.
He talked to Jon Hay about central banks’ responsibility in the face of climate change, and what
they can do to help. Crucial goals, he argues, are to tackle the financial markets’ tendencies to
misprice climate risks and to concentrate on the short term — the failing known as the tragedy of
the horizons.
: Do you think central banks have a financial stability within a certain horizon —
responsibility to mitigate climate change? within three years, for example?
Yes, clearly they do. At the end of the day it That is the question of the tragedy of the
depends on their mandate, but almost all have horizons. Sometimes you hear that climate
a financial stability mandate. In the NGFS we change will materialise in the medium to long
made the case that climate change is a source of term. But you can see some impacts now,
financial risk, therefore it falls squarely within especially physical risk. A few years ago there
the mandate of central banks. was an intense drought in Europe and the level
When we started the Network there were a of the Rhine fell very low. Because of it, some
lot of sceptics saying ‘is this really part of your boats couldn’t go up river and transport coal,
mandate?’ We turned the question round — if gas and oil, and the impact was very clear on
you’re not taking climate risk into consideration commodity prices.
then you’re not fulfilling your mandate. It seems Transition risk may materialise in the next five
there is now a very broad consensus on that. to 10 years, but some impacts are there already.
: For central banks to consider : Should central banks try to fulfil
climate risk, does it have to be a risk to that responsibility for mitigating climate
change in all areas of their activity — or only
in some?
You have to be consistent. If you’re telling the
banks and insurance companies you supervise
that they need to be able to flag their exposures
to climate risk and do something about them,
then you also need to practise what you preach
and reflect it in your own risk management
approach.
Many central banks are reflecting this in their
own investments — it’s about consistency and
being credible.
The recent NGFS publication on reflecting
climate risk in central banks’ monetary policy
Morgan Després, Banque de France operational frameworks also shows that some
actions are possible on that front as well.
6 | July 2021 | Sustainable Finance 2021 Sponsored by:
KEYNOTE INTERVIEW: MORGAN DESPRÉS, BANQUE DE FRANCE
“If we wait for perfect data, the transition will never happen”
: What are the most powerful It’s probably a matter of sequencing. Before
things central banks can do to protect society moving to calibrating risk weights or brown
and the economy from climate change? penalising factors, you need to be able to
measure risk and calibrate the quantum of
The prerequisite behind the creation of the exposure.
NGFS was the question of risk mispricing. A few You need to get to a point where analytically
years ago we had the intuition that climate risk you have a pretty good idea of how these risks
was not being priced appropriately. Therefore are going to affect probability of default and loss
investors in their risk-return analysis were given default. In my view, we are not there yet.
financing sectors exposed to climate risk, So it definitely makes more sense now to
because their returns were overestimated and have private conversations, because the level
their risks underestimated. of exposure of banks does vary very much,
Therefore we wanted to help market according to their business models, sectoral
participants by providing tools so they would be exposure and geographical exposure. Some
in a position to price climate risk properly. supervisors are having these conversations
That is the way to fix the tragedy of the already. It’s a very interesting first step. Then
horizons, have scenario analysis and the last later, it might move to the policy space.
link is carbon pricing, which is in the remit of
governments. It’s part of the equation to have : Do you think by emphasising the
this repricing fixed. importance of measurement, and waiting for
To bring this about, we are carrying out perfect data, there is a risk of wasting time?
climate stress tests, issuing supervisory
guidance, requesting things to happen in firms’ I couldn’t agree more. If we wait for perfect data
internal governance. the transition will never happen.
We can lead by example, disclosing our own There is probably a trade-off. I remember
exposures. The Banque de France did that two when we tried to do this exercise in France we
years ago in our non-monetary portfolio. We struggled to identify the exposures because
can promote research — we have very strong there was no brown taxonomy — we had to
relationships with academics. decide what sectors were more prone. Of course
there are obstacles, but that doesn’t mean it’s
: Within prudential policy, not possible. We may need more manpower
there could be two approaches. There is a and more manual processes. It’s an obstacle to
systematic one, of changing risk weightings uniform, standardised stress testing.
and capital requirements — there has been Nevertheless, we are making great progress. At
a lot of talk about green supporting factors the Green Swan Conference at the beginning of
and brown penalising factors. And there is June we had many leading figures from central
a more informal, specific one — you have banking and finance speaking on these issues.
a conversation with the CEO of a bank and Now we really have a political willingness
say ‘let’s talk about your climate risk; what to do something. But we need to move from
are you going to do about it?’ Which do you willingness to commitment. I hope we will do
think is better: the more gradual, mechanical so at Cop 26. Being willing is good, but it’s not
approach or the more individualised one? sufficient. GC
Sponsored by: Sustainable Finance 2021 | July 2021 | 7
REGULATION
Ramping up
ESG regulation
Originally a self-regulated sphere in which voluntary principles Standard will become increasingly
underpinned activity, ESG debt is attracting increasing regulatory focus important in terms of disclosure
— especially in Europe, where the EU’s ambitious Action Plan on Sustainable requirements facing issuers, as
well as in the structuring of new
Finance is creating a demanding new framework around the market. What
transactions,” says Alexander
does this imply for issuers and investors? And are other regions in step with Menounos, head of EMEA DCM and
European developments? Clifford Chance and Latham & Watkins clarify the global co-head of IG syndicate at
state of play. Morgan Stanley. “That should be
helpful in achieving consistency and
THE RAFT OF measures that of sustainable finance at Latham transparency for the market.”
make up the EU’s Action Plan on & Watkins. “There was uncertainty
Sustainable Finance — including the on the investor side and on the Issuers set to step up
Taxonomy for Sustainable Activities, corporate side as to what was or Despite the EU Commission’s
the Green Bond Standard (GBS) and was not sustainable, and without recent proposal for a Corporate
the Sustainable Finance Disclosure certainty there just was no prospect Sustainability Reporting Directive
Regulation (SFDR) — represent of moving this market forward as it (CSRD) to extend the reach of the
European regulators’ response to needed to be. It was and continues to older Non-Financial Reporting
the need to mobilise more capital in be an essential development.” Directive (NFRD), adopting the
pursuit of Paris Agreement targets. “The growth in the volume of Taxonomy is not yet mandatory —
The original Sustainable green and social bonds has been though Article 8.2 of the Taxonomy
Finance Action Plan in 2018 remarkable in the last few years,” legislation does require issuers to
plan was bolstered in July 2021 adds Cristina Lacaci, head of ESG disclose the extent of their operating
by the publication of the EU’s structuring for global capital markets and capital expenditure’s alignment.
Sustainable Finance Strategy, a at Morgan Stanley. “This has also “The requirements aren’t there on
second wave of regulatory actions led to additional complexity. The the new issuance side at the moment
to be implemented and considered, EU Taxonomy and other regulatory — for those corporate issuers that are
including exploring the possibility initiatives will be helpful in coming to market to be disclosing in
of official labels for sustainability- providing a common language their issuance documentation their
linked and transition bonds, when it comes to structuring ESG overall ESG objectives or strategy,”
consideration of regulating green financings.” notes Vyvyan.
mortgages and consumer loans, an She highlights the EU Taxonomy
expansion of the Taxonomy and a thresholds as a useful measure that “Under the
clarification that investors’ fiduciary provides consistency. “We now tend Transparency
duty includes considering the to use them for many categories, Directive
effects of their investments on the like generation of electricity or clean amendments, you
environment and society. transportation.” bring in all issuers,
“There has been a proliferation The EU’s initiative highlights its even non-EU issuers
of legislation on the buy side to self-appointed role as the driver with retail debt or
support the ultimate objective of the of sustainable finance through its equity listed on a
Sustainable Action Plan, which was Green Deal and Action Plan. “The regulated EU market”
to focus on the re-orienting of capital Taxonomy is the clearest evidence
flows towards sustainable activities of the way in which Europe and the Kate Vyvyan,
and making sure that long-termism European investor base is leading Clifford Chance
is built into all strategic objectives,” the market,” Kempson believes.
says Kate Vyvyan, partner at Clifford A key feature will be the EU’s As a result, many new issues are
Chance. unprecedented €240bn green bonds still launched with no reference to
But while sustainable finance programme, which will make it the new benchmark for sustainable
products, particularly ESG debt, the world’s largest issuer of the financial products. For example,
have seen exponential growth in product by far. Not only will 30% the recent landmark sustainability-
recent years, inconsistent definitions of the funding for its huge €800bn linked bond for EQT (notable for
of sustainability were nonetheless ‘Next Generation EU’ recovery plan its gender KPI, see accompanying
constraining its capacity to scale up. be through EU green bonds, but Diversity chapter) makes no
“The market generally considered these will model the new standard reference to the Taxonomy, though it
that the absence of a taxonomy was by being fully compliant with the does reference the Paris Agreement.
one of the main factors holding the taxonomy and GBS. “That is in line with ICMA
sustainable finance market back,” “In the second half of 2021 and recommendations and certainly
says Ed Kempson, counsel, capital particularly next year, we expect the consistent with how the market has
markets and global co-ordinator EU Taxonomy and EU Green Bond been approaching compliance with
8 | July 2021 | Sustainable Finance 2021 Sponsored by:REGULATION
the EU Taxonomy or otherwise,”
notes Manoj Tulsiani, partner, debt
capital markets at Latham & Watkins.
“Of course this is a work in process
to embed this into the market,” says
Kempson. “The most important
thing is for market practice to
develop into a position where if
you’re doing a green bond you
should be taxonomy-compliant and
this will come, hopefully, in Europe
with the Green Bond Standard.”
L&W judges that it will. “We
expect to see more issuers explicitly
aligning their sustainable finance
products to the EU Taxonomy and
hope to see that more broadly in
other markets,” Kempson affirms.
Certainly, issuers are moving up Valdis Dombrovskis and Mairead McGuinness announce the publication
the ESG debt learning curve. “Focus by the European Commission of the first two chapters of its sustainable
among the issuer community has finance Taxonomy
increased exponentially over the last
18 or 24 months,” Tulsiani reports. — as further taxonomies emerge requirements under the Taxonomy,
around the world. Already both SFDR, NFRD and future CSRD for
Grappling with GBS China and the UK (no longer bound entities under different regimes.
As it is a voluntary standard for by EU legislation after Brexit) are One example is the prospect of
now, major investors are unlikely to developing their own taxonomies, banks needing to disclose data about
rely on the GBS exclusively. Morgan while some observers see scope for exposure to companies that are not
Stanley Investment Management the new Biden administration to under the same requirement.
(MSIM), for example, regards part promote a US taxonomy. “It is a concern that there is not a
of its responsibility as a steward The Chinese scheme is an outlier. universality in reporting standards
of capital as being to not take Although Chinese regulators have in the taxonomies. What you’ll find
labels for granted. “In the same said that they are seeking alignment in the future is a lot more focus at
way as we approach the Green with the EU Taxonomy, this appears the policy level to try to bring that
Bond Principles and second-party questionable as China is on a non- together in a coherent disclosure
opinions, we feel it is important to aligned pathway to net zero in 2060, regime,” says Kempson, who notes
develop our own processes to assess not 2050. that some reporting requirements
these instruments,” says Navindu More generally, as disputes over under the taxonomy are “imperfect,
Katugampola, global head of the inclusion of natural gas and as you would expect in a very
sustainability at MSIM. nuclear power in the EU Taxonomy nascent and developing regulatory
“We feel there is an obligation on underscore, there is a risk of regional framework”.
asset managers to think critically and national taxonomies deferring More generally, the CSRD has
and not just buy things because they to industries and sectors with greater far broader scope than the NFRD,
correspond to a standard,” he adds, weight in their jurisdiction. which applied only to the largest
noting that the “spectrum of [ESG In turn, that could incentivise European companies. “This is hugely
debt] issuance is almost outpacing issuers to adopt whichever taxonomy increasing the scope of entities that
labels as the pace has accelerated is least burdensome for them. “That’s are brought within the regulation,”
and moved laterally”. certainly something that we hope Vyvyan notes.
Moreover, some investors question that we do not see,” says Kempson. This expansion includes
whether 100% GBS-aligned holdings “We hope that people understand bringing non-EU entities under the
would constitute appropriate the fundamental importance of legislation. “Under the Transparency
diversification of exposures. “The making this a truly sustainable Directive amendments, you’re
base case is that we are likely to transition. But to expect there to be bringing in all issuers, even non-EU
still have a spectrum of issuers to no discussion as between regional issuers that have retail debt or equity
achieve well diversified portfolios,” taxonomies is probably naïve.” listed on a regulated market of the
Katugampola says. EU,” she adds, noting that purely
Reporting inconsistency wholesale debt offerings are not
‘Taxonomy shopping’ The current raft of European caught.
One growing concern is the potential legislation and initiatives While the burden for smaller
for regulatory arbitrage — ‘taxonomy creates potential inconsistencies companies is significant, especially
shopping’, as some have termed it in disclosure and reporting as the CSRD appears more stringent
Sponsored by: Sustainable Finance 2021 | July 2021 | 9REGULATION
than its predecessor, Vyvyan points (TFCD), as well as the prospect of experiencing push from regulators
out that they may be spared the scrutiny from the US Securities & and pull from clients towards
legislation’s full force. “When we see Exchange Commission (SEC). sustainability. This includes both
the finer detail, we are going to find greater emphasis on ESG and
that the particular characteristics transparency over how they factor
and capacities of SMEs are taken sustainability considerations into
into consideration and they may be “To expect there to their investment decision-making.
able to either comply voluntarily or be no discussion as Katugampola describes the twin
have some lesser standards applied between regional influences as a “virtuous circle”
to them.” taxonomies is that will help embed appropriate
More generally, she emphasises the probably naïve” practices.
spirit of the proposal. “That’s helpful The need to satisfy the new
for the investment community, a real Ed Kempson, regulations also highlights the
extension of scope in a useful way.” Latham & Watkins dynamic environment for asset
managers around ESG. “It is a
Investors feel push and pull continually evolving landscape,
More broadly, investors are facing in the same way as the processes,
an even greater near-term regulatory “TCFD represents best practice tools, models and data that we use
burden than issuers. “Pressure in climate disclosure, providing are evolving.”
around disclosure has come in financial market participants with This evolution represents
through the buy side with a need for important and decision-useful “something of an arms race” as asset
investors to disclose in accordance information. This is validated by managers keep looking to improve
with the regulations that apply to the 2,100 companies across 78 the range and diversity of their
their activities,” says Vyvyan. countries that are supporters of products.
“There is a swathe of regulation TCFD, representing $23tr in market Katugampola views this positively.
coming our way,” Katugampola cap,” says Matthew Slovik, head of “It benefits clients and places
acknowledges. Besides the EU global sustainable finance at Morgan additional duty on us to be a
Taxonomy, he cites the Task Force on Stanley. responsible steward of capital,”
Climate-related Financial Disclosures As a result, asset managers are he affirms. GC
Bank capital receives EBA green light
REGULATORY ACTION is likely to shape been eagerly anticipating, following the “The EBA is walking a fine line here
the future trajectory of ESG debt from EBA’s initial observations on green and between maintaining a neutral stance on
banks — both sustainability-linked social Tier 2 debt in an MREL report last the format and ensuring that eligibility
bonds (SLBs) and subordinated capital autumn, were finally published in late criteria do not get diluted in the process,”
instruments, including AT1 quasi-equity, June. Dozin comments. “Barring targeted
in green or social format. “Thanks to the additional guidance, changes in the level one text to clarify
SLBs are challenged by MREL whoever had concerns regarding notions such as credit standing, it may be
(minimum requirements for own funds residual regulatory risk of issuing
and eligible liabilities) eligibility (see capital in green/social format should “The EBA is focused
accompanying sustainability-linked now feel comfortable,” Dozin judges, on enhancing
bonds chapter). In addition, the European adding that “while in line with disclosure of MREL
Banking Authority (EBA) has required expectations and the key themes of risks to make sure
additional investor disclosures for ESG the Q4 MREL report, the EBA’s best that green investors
capital — the highest risk debt banks practice recommendations provide know exactly what
offer. a concrete approach to improve they are getting into”
“The EBA is focused on enhancing issuance programmes and minimise
disclosure of capital risks to make sure the reputational risk authorities have Charles-Antoine
that green investors know exactly what identified”. Dozin, Morgan
they are getting into,” notes Charles- However, market participants Stanley
Antoine Dozin, head of capital, ratings have focused on the EBA’s reminder
and liability management advisory at that step-ups and fee-based constructs some time before SLBs take off”.
Morgan Stanley. are not compatible with regulatory Clarification of the regulator’s
While bail-in risk is the main concern, instruments. The confirmation dashed stance on ESG AT1 is also crucial. “The
the flagged areas also include rollover hopes that banks may be allowed to issue acknowledgment of the instrument in
risk (the potential for green proceeds to SLBs in the wake of their great popularity the AT1 monitoring reporting where the
be in cash temporarily if asset and liability in the corporate sector and appears likely EBA flags that coupon cancellation risks
maturities do not match perfectly). to slow down the evolution of the asset should be properly highlighted should
The guidelines the FIG sector had class. revive interest in the format.” GC
10 | July 2021 | Sustainable Finance 2021 Sponsored by:DIVERSITY & INCLUSION
Social dimension brings
greater depth to ESG
While the initial focus of sustainable linked bonds (SLBs) with KPIs tied communities.”
finance efforts was largely on to social goals — including specific This followed an earlier sustainable
environmental action, social factors D&I targets — are taking off. This offering from Google parent Alphabet
have grown increasingly prominent development is taking place despite in 2020. Again, the triple-tranche
in recent years — underscored by the European Central Bank (ECB) jumbo funds both social and green
being limited to funding instruments investments. Besides affordable
the establishment of the Social Bond
linked to environmental KPIs only. housing, small business support and
Principles in 2017. Subsequently, Having begun buying euro SLBs pandemic recovery, eligible social uses
Covid and racial tensions in the this year under its Corporate Sector of proceeds included the explicit D&I
US have each highlighted social Purchase Programme (CSPP) and target of racial equity.
disparities that are leading issuers Pandemic Emergency Purchase More should follow, James reports.
and investors to treat diversity and Programme (PEPP), the ECB has “We are having conversations with
inclusion as key parameters too. quickly grown into the market’s a number of corporates around how
dominant investor. they think about including social
“THE DUAL PANDEMICS last year, A euro SLB issued recently by projects in their use of proceeds
both a health crisis and a racial one, Sweden’s EQT highlights the new issuance. You’re going to see more of
have shone a light on the ‘S’ pillar trend. This features KPIs tracking this.”
of ESG,” says Melissa James, vice- greater gender diversity within In addition, large US banks have
chairman and head of the ESG Center the private equity investor and its become active issuers of social
of Excellence for Global Capital portfolio companies, with percentages bonds. Like the tech titans, affordable
Markets at Morgan Stanley. “Now, as of both investment professionals and housing has been the typical use of
a consequence, what we are seeing board members measured. proceeds from these deals — such as a
is that investors and companies Along with SLBs, use of proceeds Morgan Stanley fixed-to-floating-rate
both recognise how social factors bonds tied to D&I goals are also structure in October 2020.
such as diversity and inclusion and gaining traction. “Both are excellent While corporate social bonds had
other things like worker health and ways for investors and companies to been largely a US phenomenon,
safety can create material risks and signal their commitment to social a recent landmark also emerged in
opportunities for companies that need impact,” James believes. Europe recently when French energy
to be managed. A recent landmark saw Amazon company EDF issued the first quasi-
“This is a moment in time and launch its first sustainable bond, equity ‘hybrid’ corporate social bond.
many investors and corporates want for example. Proceeds finance The deeply subordinated perpetual
to be part of creating lasting and social projects (affordable housing, offering is linked to supporting small
meaningful change.” upskilling) as well as environmental and medium-sized enterprises (SMEs)
This appetite for change is already ones. The company’s sustainable and regional and employment impact.
translating into new sustainable finance framework specifically targets European banks such as the newly-
finance approaches — both in training expenditures “to populations merged CaixaBank (Spain’s largest
investors’ ESG lenses and in ESG debt that include the unemployed and lender by assets) has begun issuing
structures. underemployed individuals from social bonds to finance eligible assets.
“We see the diversity and inclusion underserved and underrepresented These financings are meeting
(D&I) space going the way strong demand from buyers.
of ESG more broadly,” “Investors are willing to
adds James. “There will reward companies for
be a need for more data incorporating these features
and disclosure around in their debt instruments,”
what people are doing James says. “We’ve seen it in
so that stakeholders can the form of the sustainability
measure and monitor premium that issuers are
performance against those able to achieve in terms of
goals. You need specific lower coupons on their debt
KPIs in the D&I space to obligations.”
ensure accountability Moreover, demand is both
towards goals and targets. growing and becoming more
After all, you get what you specific about KPIs. “Investors
measure and that’s what are asking for more of this
we’re starting to hear from type of issuance,” she judges.
investors.” “We’re seeing specific reverse
enquiries in some cases on
Amazon has launched its first sustainable bond, with pro-
Bond build-up ceeds financing social projects including affordable hous- what type of KPIs investors
In turn, sustainability- ing and upskilling as well as environmental ones want to see.”
Sponsored by: Sustainable Finance 2021 | July 2021 | 11You can also read
