When the funding is green, not because of the color of the bills

When the funding is green, not because of the color of the bills

Monday, 21 may 2018 | Redacción CEU

Climate change, like digital transformation, also works as a transforming lever in the finance world. Global warming and its corresponding struggle and combat have their own reflection in the sector. Green funding is increasingly paving the way in the market. The bet on green bonds and green loans in Spain grows substantially. But, what does this type of funding consist of? What distinguishes it from the rest of traditional financing instruments? Who  controls what their color is and how?

 

Renewable energy, carbon emissions reduction, biodiversity conservation, energy efficiency, sustainable land use, responsible waste management, clean transport, sustainable water management, eco-efficient products or adaptation to climate change are just some of the names that accompany the projects that usually carry the nickname of “green”, in other words, that they are considered respectful with the environment. In recent years, there is a growing trend to bet on the financing of this type of initiatives, especially under the formula of the green bonds. In particular, it is very significant in Spain (in the world ranking this country is in the thirteenth place).

What is different about bonds when they are green?

The so-called green bonds have the goal to finance or refinance, partially or completely, new or existing projects that have a manifest interest in promoting a positive environmental effect. This type of bond does not really differ from the rest except in the adjective that accompanies them and, in principle, its responsible and contributory mission with the environment care. Without taking into account that distinction, they could be well considered in essence as conventional bonds.

We cannot forget that bonds are debt instruments that companies, organizations or public administrations issue in order to obtain financing resources. The issuers of the bond undertake to return to the purchasers of the bonds (bondholders), at a given time, the borrowed money together with periodic interests (coupons). In the case that the bonds are green, in order to go public they need a verification that guarantees that this rating is adequate -something that we will develop below-.

The issuers of these green bonds can be from supranational institutions and governments, to financial entities and companies. In relation to their type of issue, bonds can adopt four financial modalities according to their credit risk coverage:

  • Simple: guaranteed by the issuer's financial capacity
  • According to incomes: guaranteed by the income flows specified by the issuer
  • Project Finance: guaranteed by the cash flow generated by the project
  • Titled: guaranteed by the income of a portfolio of projects

In 2017, green bonds reached 160.8 billion dollars (around 136.6 billion euros) globally, a figure that most experts point out that it will increase considerably by the end of 2018, despite the decline experienced in this first trimester. In fact, according to the data provided by the Climate Bonds Initiative (CBI), so far this year, green bonds worth 4,000 million euros have been issued in Spain, this figure almost reaches the total of bonds issued during the past year, 5,000 million euros. Among the main issuers of green bonds of this period we find ACS, Adif Alta Velocidad, the Community of Madrid or BBVA. Other relevant issuers within the national scenario have been Iberdrola, Gas Natural Fenosa or Repsol.

When the funding is green, not because of the color of the bills

Who determines the color of the bonds?

In order to get the "green" label, the bonds need an external agent to certify them. The issuers have to guarantee that the benefits obtained are destined to projects that fit with this adjective linked to the respect for the environment. Bond issues are usually supported by independent verifiers based on generally accepted criteria. These organisms are generally governed by the standards set by the International Capital Market Association (ICMA), known as Green Bond Principles (GBP). The issuers also usually report periodically what use is being made of the resources and these reports are also susceptible of being audited.

Some other standards that should be mentioned are the ASEAN Green Bond Standards that apply in the Southeast Asian markets and the Climate Bonds Initiative dedicated specifically to climate change. However, being a relatively new funding modality, the green bond regulation is not very developed yet. Some experts point out the need to promote stronger regulations to avoid falling into greenwashing. It is foreseeable that these verification measures will be developed; since they are widely accepted in the market and investors will demand it this way.

Loans can also be green

Although less known, green loans have a gap in this incipient sector of green funding and also rise good numbers. These loans, like green bonds, are similar to the conventional financing instruments that give them their name, with the same exception: the resources obtained through them must be destined to activities that fit in the "green" category.

This increase in environmental awareness in the markets is motivated in part by the Paris Agreement and the Sustainable Development Goals (SDGs). Green bonds and green loans can serve not only as an alternative funding, but also to demonstrate that the “green” is profitable, to increase the commitment to the battle against climate change among investors or to favor alignment with sustainability strategies. For this, it is important to insist that its implementation has to be effective, not just an added adjective.

At The CEU IAM Business School we have designed an Executive Master's Degree in Finance with a program focused on providing the students a full perspective of the financial world, both in its business side and in the banking and finance sector. A training adapted to the changes that occur in this sector and that allows the development of the career of both the professionals immersed in this financial world and the ones that come from outside of it.

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