The global sustainable finance market, including bonds, funds and voluntary carbon markets, reached $5.8tn in value in 2022, according to the UN Conference on Trade and Development’s (UNCTAD’s) World Investment Report 2023. “The sustainable finance market remains an important source of capital for investment in sustainable development and the Sustainable Development Goals (SDGs), as well as a driver of change in business mindsets and investment strategies,” according to the report.
The SDGs underpin the 2030 Agenda for Sustainable Development, which was adopted by all UN member states in 2015. The goals are focused on strategies that improve health and education, reduce inequality and spur economic growth, while tackling climate change and working to preserve oceans and forests.
Sustainable funds continue to be more attractive to investors than traditional funds, says UNCTAD, although the value of this market fell from its high of $2.7tn in 2021 to $2.5tn in 2022. Despite this contraction, net inflows were positive compared to net outflows from traditional fund markets. “This suggests that investors view sustainable finance as a longer-term strategy and are convinced by the business case for sustainable sectors, such as renewable energy,” the report states.
While sustainable bond issuance declined during the period, its cumulative value increased, reaching $3.3tn in 2022. Green bond issuance remained relatively resilient, falling 3% in 2022.
Rosl Veltmeijer, portfolio manager of Triodos Sterling Bond Impact Fund, says green bonds remain the largest and most mature area of sustainable capital markets. “While social bonds had been in favour, particularly in the EU post-Covid-19, they appear to be declining in popularity,” she says.
Greenwashing worries
While sustainability-linked bonds (SLBs) had been on the rise, Ms Veltmeijer says that they have faced some headwinds in the form of criticism from market participants who are concerned about exposure to the risk of greenwashing. “The market for these bonds has shrunk considerably,” she adds.
Triodos Investment Management applies “very strict criteria when investing” and one of the reasons it does not invest in SLBs is that “it is very difficult to determine the materiality of the key performance indicators”, she explains.
The Dutch ethical bank closely scrutinises the companies that issue SLBs, she adds. “As these bonds remain on their balance sheets, we do not want to expose ourselves to fossil fuel companies, either directly or indirectly through their bonds. For example, some SLBs are issued by companies that are heavy carbon dioxide emitters, and these sectors are not selected by us,” she explains. “At present, the step-up on SLBs is so low that it does not act as an incentive for the issuing company to meet sustainability targets. Triodos doesn’t think sustainability should be a trade-off.”
To address greenwashing concerns in SLBs, the International Capital Market Association (ICMA) released an updated version of its SLB question and answer guide in September 2023, which is a complement to its SLB Principles. The SLB Principles come under the umbrella of ICMA’s Sustainable Finance Principles, which also cover green bonds, social bonds and sustainable bonds. The principles are a voluntary framework that recommend structuring features, disclosure and reporting.
In a paper on market integrity and greenwashing risks in sustainable capital markets as a whole, ICMA identified fundamental areas of concern regarding greenwashing in sustainable finance. Greenwashing is not prevalent in the green bond market, ICMA notes, but “ambition and materiality in the early development of the new SLB market may have been insufficient”.
The association identified four areas of concern for sustainable bonds:
- Lack of ambition;
- Strategic inconsistency;
- Mismanagement of wider sustainability risks; and
- Actual deception.
ICMA insists that its principles are mitigating areas of concern, and that existing or pending sustainable finance regulations in many jurisdictions are “highly relevant”, including taxonomies that set and benchmark ambition, new corporate sustainable reporting rules that provide transparency on strategic consistency, and ‘do no significant harm’ methodologies that will potentially address wider sustainability risks. “We underline, however, the importance of ensuring the usability and the international operability of these regulations,” the association notes.
Regulatory standards
Accordingly, ICMA urges policy-makers and regulators to concentrate on actionable areas of concern in sustainable finance; help improve the availability of data on market integrity in relation to these areas; reference existing legislation where enforcement may be needed; implement current regulatory initiatives with a focus on international interoperability and usability; and continue to leverage the positive contribution of market best practice.
The organisation notes international moves on sustainable finance standards that are based on its principles, including the Association of Southeast Asian Nations Capital Markets Forum’s Green Bond Standards, Brazil’s Guidelines for Issuing Green Bonds, Japan’s Social Bond Guidelines, and Kenya’s Policy Guidance Note on the Issuance of Green Bonds.
Elsewhere, the European Council adopted the European Green Bond Regulation in October, which it described as “an integral part of the European Green Deal”. The regulation establishes a voluntary standard for green bonds in Europe. Such bonds will be available to companies and public entities that wish to raise funds on capital markets to finance their green investments, while meeting tough sustainability requirements. Issuers must ensure that at least 85% of the funds raised by the bonds are allocated to economic activities that align with the EU’s Taxonomy Regulation. The European Commission says the regulation enables investors to easily assess, compare and trust that their investments are sustainable.
In China, ICMA advised the National Association of Financial Market Institutional Investors and the China Green Bond Standard Committee in drafting the China Green Bond Principles (GBPs), released in July 2022. Based on ICMA’s GBPs, the China GBPs are the unified issuance specifications for China’s green bond market and are approved by the People’s Bank of China and the China Securities Regulatory Commission.
“The principles cover multiple green bond types, such as green financial bonds, green debt financing instruments and green corporate bonds,” a China Construction Bank (CCB) spokesperson explains. “[They] promote the standardisation process of green finance, and improve the Green Bond Standard system that is unified domestically and internationally aligned.”
CCB issued China’s first green and sustainable development bonds, environmental, social and governance (ESG)-themed bonds, green credit asset securitisation, and carbon-neutral green bonds both domestically and internationally. “The bank also underwrote the market’s first batch of carbon-neutral bonds, SLBs, blue bonds and transition bonds, which have enriched the financing tools for the low-carbon transition and to support the development of green industries,” the spokesperson adds.
New initiatives
At a recent meeting in New Delhi, organised by the India Initiative on Climate Risks and Sustainable Finance and the Climate Bonds Initiative, delegates heard that India’s financial sector and companies are grappling with uncertainty in the absence of a clear taxonomy and definitions for sustainable activities. The conference called for regulatory clarity to enable market participants to distinguish between different types of sustainable and transition initiatives.
The Official Monetary and Financial Institutions Forum — a central banking, economic policy and public investment think tank — reported that the Reserve Bank of India and Securities and Exchange Board of India are working towards a comprehensive regulatory framework that spans both the financial and corporate sectors, focusing on transparency, risk management and sustainability.
Without “hard and fast standards”, a small minority of bond issuers might play “fast and loose” with ESG bonds, says Damian Glendinning, chairman of the advisory board of consultancy CompleXCountries and former treasurer at Lenovo, a Chinese multinational technology company.
“There is a big push to issue ESG-related bonds and that is commendable,” he adds. “There are now moves afoot to tighten standards but that might bring a new set of challenges — often, the underlying science is not yet fully established and agreed.
“Neither banks nor corporates wish to be involved in greenwashing scandals. At present, the upside of issuing ESG bonds is, at best, moderate compared with the downside if things go wrong — for example, when the new standards declassify green bonds which used to be considered compliant.”
The right direction
Despite the challenges, green and social bonds are “very strong instruments”, says Triodos’s Ms Veltmeijer. “We like to invest in companies that are transparent and publish allocation and impact reports. In looking at green bonds, we want to ensure the companies also have good aspirations with regard to the environment, and vice versa.”
This article is part of the Special Report: Making meaningful progress in sustainability
Sustainable capital markets are going in the right direction as companies are becoming more transparent on green and social bonds and embedding green and social policies into their wider company strategy, she notes.
“At Triodos, we don’t want to see green and social bonds treated as ‘side pockets’,” Ms Veltmeijer adds. “I would like to see an expansion in the types of companies that issue green bonds — at present this market is dominated by utilities, finance and real estate companies. But in the future, it would be great to see [a wider array of companies issuing] green bonds aimed at improving biodiversity, water and waste management, for example.”
