As CEO of the Climate Bonds Initiative, Sean Kidney is an expert on using your bonds to not just cover your legal and financial bases, but to help improve the environment and the planet. He spoke with us about what you need to know about green bonds.
Duke Revard: What are "green bonds"?
Sean Kidney: Green bonds are standard bonds with a green bonus feature. Their proceeds are "earmarked" for assets important to addressing climate change such as wind and solar plants, rail transport and green buildings. Three years ago, labelled green bonds were a niche market pioneered by a handful of development banks. In 2013, they entered the spotlight with $11bn issued (over three times the issuance of any year previous). This year, the market has skyrocketed with $32.5bn issued as of today and $100bn expected in 2015.
Duke Revard: Why are green bonds so important?
Sean Kidney: The world is faced with an enormous challenge: how to avoid a catastrophic destruction of societies and economies that would come with a temperature increase of 6-7°C. International Energy Agency says that to get the world on the 2°C emissions trajectory, $53tn of investment above business as usual will be needed by 2035. Low-carbon industries must grow, on average, 25-30% per annum globally. Niche financing solutions will not be sufficient, and neither will public sector funds alone. This means that tapping the largest market of all; $100bn bonds market will be essential. The good news is that the shift is investable, and the massive growth in the green bonds market is an evidence of that.
Green bonds and climate bonds make it easier for investors to find opportunities relevant to addressing climate change: credible labeling reduces "friction" and the cost of due diligence.
Climate Bonds Initiative is an international investor-focused non for profit that was set up to mobilize debt capital markets for climate change solutions. We educate investors and prospective bond issuers about opportunities with environmental solutions related to climate change and develops policies and projects that will support renewable energy investibility.
Duke Revard: How is a green bond classified, and who verifies it as such? What's the process?
Sean Kidney: At present, there is no standardized approach for the issuance of a green bond; issuers self-label bonds as green and provide detail on the green eligibility criteria for use of proceeds. We believe that to maintain the confidence of investors in the market and avoid green wash, we need a rigorous approach to assessing the green claims of investments. The confidence is a key word: Without it, the green bonds market can crash like a bad soufflé.
A set of widely-accepted standards saying which assets can and can't be included in a green bond will avoid any projects with dubious environmental credentials being financed with a green bond. The Climate Bonds Initiative publishes open access guidelines for which climate-related investments that could be associated with green bonds. Guidelines, or "Climate Bonds Taxonomy," are developed by international expert committees made up dozens of academic and industry experts. The guidelines are a free resource for independent reviewers and others as a basis for determining eligible investments.
Duke Revard: What would you say to a businessperson investor who is skeptical of climate change and green energy?
Sean Kidney: In the face of the statements from International Energy Agency, European Commission and the UN, it is hardly possible to meet someone who does not believe that temperatures are rising and continued reliance on coal will lead to a catastrophe a few decades from now.
Green bond is a simple proposition that will appeal to both: investors that are concerned with climate change but also to those who simply couldn't care less. There is no difference in the credit rating between a green bond and vanilla bond from the same issuer. This means that investment managers do not have to take a hit on price. They can opt for a bond which they would be interested in anyway but go for the green one.
If you are an investor offered with two investment products with the same interest rate, risk profile and rating but one, as a bonus, go to investment that is critical to a rapid transition to a low carbon and climate resilient economy - why wouldn't you go for the green one? Green bonds allow institutional investors to earn stable returns while promoting green growth.
Duke Revard: Why is the transition to green energy so expensive? What specific problems does it face?
Sean Kidney: The transition to a low-carbon and climate-resilient economy is perceived as expensive for several reasons. First, low-carbon infrastructure has a different financial profile than high-carbon infrastructure, with higher upfront investment needed, but then lower operating costs. People, and investors, see the higher immediate money needed and translate that to low-carbon being more expensive, whereas in the long-term this is in many cases not true. Short termism in finance is a well-known problem, which hits low-carbon investments harder than high carbon investments.
The key point to emphasize is that the upfront money needed is investment, not cost. But the transition to low-carbon can become more costly than it should because of higher financing costs for these investments. As they are relatively new and there is a limited track record on investment performance, investors require a risk premium, making low-carbon more costly to finance for developers. This risk premium will decline as investors, and rating agencies, have more data on low-carbon assets. In the meantime, however, there is a role for governments to provide support to ensure that these barriers to low-carbon investments are reduced, for example through credit enhancement mechanisms.
Duke Revard: What impacts will climate change have on businesses that they should be aware of?
Sean Kidney: Potentially enormous. The first impacts will come from increasingly volatile weather - we're already seeing this. Storms, storm surges, rainfall dumps, more intense typhoons, droughts, heat stress are all becoming more exaggerated and severe. Food production will consequently be more volatile, infrastructure will need to invest to become more climate resilient and economies will need to be better able to withstand regular shocks.
Businesses will need to do more contingency planning as a result, and at minimum ensure adequate insurance coverage. Manufacturing and logistics companies will need to have more focus on redundancy planning.
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