Green bonds may have a 'halo effect' on financial markets

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Green bonds are set to hit record levels yet again in 2018.

The global green bonds market is on course to once again smash records as policy and cultural changes herald what could be a breakthrough year for low carbon finance. Yet, demonstrating the growing success of green bonds is far more than good PR, it seems their impact on the financial sector may be going even deeper than it first appears.

After breaching the $100 billion mark for the first time last year, green bond issuances are set to top $200 billion during 2018. And while the precise forecast for this year differs depending on who you talk to, the $155 billion achieved in 2017 certainly marks a huge uptick from five years ago, when issuances stood at a mere $13 billion.

Evidently, green bonds are on the march, and the issuances this year already have begun to flow. Nordic corporate bank SEB last week announced the launch of two green bonds worth a combined $760 million issued by German development bank KfW.

The bank's $630,000 bond with a maturity of 10 years issued at the end of last month was the largest green bond in Swedish krona and came just days after a $125,000 green bond with a maturity of five years, according to KfW's head of capital markets Petra Wehlert.

"This is the year of the SEK green bond market for KfW," she said. "We look forward to broaden out our investor base with green bonds in different currencies."

Following on this trajectory, S&P Global Ratings published its projections for the global green bonds market this year, predicting around $200 billion total issuances by the end of 2018.The ratings agency cited strengthening green bond market fundamentals as justification for its bullishness and highlighted low carbon technologies in energy, transport and buildings as the major beneficiaries of resulting investment.

But S&P's outlook may be a conservative projection if rival ratings agency Moody's is to be believed. While S&P set year on year growth at around 30 percent for the year  significantly slower than recent years, which have shown closer to 80 percent growth — Moody's believes a 60 percent uptick in 2018 compared to last year will be closer to the mark. That would mean, by the end of 2018, global green bond issuances will have reached a record $250 billion  a quarter of the way to the $1 trillion market campaigners want to see delivered by the early 2020s.

Developed market corporations and banks will remain the most active participants in the market, according to Moody's analyst Matt Kuchtyak, but national and local governments will become increasing drivers of growth as they seek to adapt to climate change and meet Paris Agreement goals.

"The public sector is at the forefront of combating climate change, coping with environmental shocks and addressing critical infrastructure needs," said Kuchtyak. "We anticipate green bonds will increasingly serve as a relevant financing tool for these obligations."

The EU Commission — well aware of the scale of financing needed to meet climate objectives and combat declining renewable investment in the continent — is also looking at how it can further support the burgeoning market through its sustainable finance strategy, which is due in mere weeks.

Encouragingly, that strategy is likely be heavily influenced by a crucial report launched last week by an EU-appointed group of finance experts, the High Level Export Group on Sustainable Finance, which called on the EU to draw up an official European Green Bonds Standard in a bid for clearer classification for what constitutes a "green bond."

Such criteria, long sought by the Climate Bonds Initiative campaign group, also should be backed by green bond labels and certificates to help develop the market and "maximize its capacity to finance green projects that contribute to wider sustainability objects," concluded the report, which has attracted widespread support from across Europe's financial sector.

Thus, should such recommendations meet the approval of EU member states, a set of green bond standards could emerge within the next couple of years, which bodes well for stimulating further financing for green projects into the next decade.

But the importance of the green bonds market transcends both the raw numbers and its role as a "marketing phenomenon" to signal the commitment of a bank or government to environmental protection and climate action. Recent analysis by NatWest Markets suggests that while unlocking more finance for clean energy, infrastructure and other green projects is obviously crucial, the expansion of green bonds also can foster more sustainable thinking throughout financial circles more generally, helping to promote climate change beyond a mere niche concern.

NatWest calls this the "halo effects" of a green bond, arguing that an issuance can put pressure on a bank's, government's or company's wider bond offering  including non-green bonds.

"Our interpretation of this effect is that green bond issuance helps attract a broader sustainability-focused investor base to the company's debt as a whole, thereby putting downward pressure on the entire curve," stated the analysis.

As The Financial Times notes, the methodology which led to NatWest's conclusion isn't bulletproof and question marks remain, but it certainly is an interesting contention and demonstrates the growing strength of the economic arguments behind greener, more sustainable investing.

For interested investors, too, a scientific framework to help inform decisions which make positive impacts on the environment is also being drawn up, potentially enabling better evaluation of corporate practices across business sectors, potentially further greening the financial system.

Developed by scientists at the City University of New York (CUNY) and Harvard University, the framework is aimed at promoting investments in the U.N.'s Sustainable Development Goals (SDGs) and is being tested on a $2.1 billion portfolio managed by UBS Asset Management on behalf of Dutch pension fund PGGM.

The framework is being used to analyze the multi-billion dollar portfolio looking in particular at four challenge areas of water, climate change mitigation, human health and food security, according to CUNY's Charles J. Vörösmarty, who is jointly leading the research group.

The research, he said, suggests a new way to assess the sustainability of corporations for investors, who are increasingly interested in greener investing.

"The metrics we have been developing are designed to shape investment decisions and to transform the way companies are identified and chosen by asset managers — not just based on their profitability but also as bona fide contributors to sustainability," Vörösmarty said. "The global effect of this transformation would likely be valued at trillions of dollars in terms of its impact in helping to limit climate change, reduce water pollution and supply stresses, foster human health and counter the widespread loss of ecosystem services."

Judging by the green bonds news from the last week alone, the bonds market looks like it could become a very important component of this global transformation.

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