Inside the Climate Bonds Initiative with Sean Kidney
The year 2014 has seen exciting growth in the maturing green bonds market, with clear investor demand and issuance tripling compared to 2013. However, for the market to grow to scale, this sector needs the kinds of systems and accepted standards in place that sustain the $80 trillion global debt capital markets.
I recently caught up with a key figure in the green bond movement — Sean Kidney, chief executive and co-founder of the Climate Bonds Initiative (CBI) — to discuss the current state of green debt and what it will take to scale up investments.
Kidney launched CBI as a project of the Network for Sustainable Financial Markets, after a career in social marketing and strategy consulting, including working at some of the largest Australian pension funds. Here are some highlights from our conversation:
Namrita Kapur: I understand that policy will play a key role in scaling the green bond marketplace. What role is CBI playing in the policy arena?
Sean Kidney: A price on carbon is critical to creating a scale, but that has proved challenging to secure in the near-term. Instead, we are largely focusing on what we call financial system policy.
First and foremost, we are advancing international standards, working to establish clear, green and robust definitions. We have a huge number of organizations involved in this, representing $34 trillion of investors, and sizeable grants from Bloomberg and the Swiss government. The type of certification system we are working to establish is critical to building and maintaining reasonable confidence in green bond credentials.
Our second focus is what we call policy formulation, helping governments see that there’s a pot of gold over there and showing them how to harvest it. Examples of this effort include a couple of papers we published in the spring. One is about what China can do to grow its green bond market and the macroeconomic reasons to do it. We also published a report for the European Commission on Financing the Future, where we articulated the role of green bonds in designing stable financial markets.
Our third effort is what we call market education; here our focus is to increase issuance. We’ve established that there is investor demand, and now we need to feed it with bonds, so we travel the world working with the issuer community. We brief banks and cities on this new market, hoping to motivate them to enter it and thereby build supply.
There’s a lot of issuance coming through the system. I think we’ll see double the market this year than we saw last year without too much difficulty, but I want it to triple again because triple gets us to a magical $100 billion issuance, which has political resonance.
Kapur: What are the barriers to getting to that magical $100 billion number?
Kidney: The U.S. market — full stop. In contrast with Europe, U.S. banks, such as Bank of America, are not promoting the independent review of green bonds. It just happened again; BoA’s second bond sold reasonably well but there was no independent review of the green credentials. We believe a broad culture of independent review would unlock supply.
We are making headway on this. Last year, a minority of bonds had an independent review and now 81 percent of bonds are getting them. That’s a big win! But within the current system, there are two interrelated problems — variability and scalability.
It is a fragmented group of players in the current system of third-party review, providing a variety of reviews that you can’t easily compare. Big Four accounting firms have not entered the space because there is no clear standard which can guide a review; their internal governance people have warned them away from the space. That might soon change, though, as the Big Four accounting firms have formed a working group to support the Climate Bonds Standard. With the Climate Bonds Standard, they are effectively auditing against an independent standard — a position their ethics people say they can take.
The other issue is scalability. There’s a small number of bodies that can do a review that have risen out of the European socially responsible investment market. Their experience isn’t transferable to other key geographies, such as China and the United States.
Kapur: How is CBI addressing this barrier?
Kidney: We are pushing a standards-based approach. The funding is largely provided by foundations and grants. Banks do sponsor bits of the work but only on the condition that they have no role in governance.
We have a board made up of non-profits organizations that represent investor associations and buy-side capital, and who don’t provide us any funding. The Board includes the California State Teachers’ Retirement System, the state treasurer of California, Natural Resources Defense Council and CDP (formerly Carbon Disclosure Project). World Wildlife Fund will join a little later this year.
There’s a whole series of domain working groups, which consists largely of academics and special centers such as World Resources Institute, and then there’s an industry working group made up of banks and investors. The industry group translates the recommendations of the academics, so that they work for financial market players.
The next iteration of the standard, currently available on our site for review, does two things compared to version 1.0 — it picks up the reporting language from the Green Bond Principles, and it simplifies the review requirements. Our aim with this iteration is to make the process effective while reducing the room for interpretation. That also has the benefit of hopefully making it cheaper.
The challenge has been how low we can get the cost of transaction, while maintaining confidence and rigor. That’s the fun part of this particular iteration. We plan to release version 2.0 of the standard in October.
Kapur: Up to this point, the market’s been fairly robust and there hasn’t been a certification process in place. What’s the incentive to go through the certification process?
Kidney: I disagree [that the market has been robust]. The market is reasonably OK because we’ve chosen not to be too tough. As the market balloons, the scrutiny will increase.
We recently convened a meeting of the world’s biggest law firms. They tell us fairly unequivocally companies have a risk of being sued if they assert their own green bond credentials. For example, if investors buy something on a green claim and find out from an environmental group it wasn’t very green, they’re going to sue them.
Furthermore, the current model of getting an independent review, as proposed in the Green Bond Principles, getting an assurance against vague concepts is indefensible legally. They will not advise their clients to accept that as a risk mitigation tool. If there are credible standards in the market and a company gets certified against those standards, that is a reasonable risk mitigation measure. The other driver is cost. We expect certification to be cheaper than a second opinion.