No region appears more in need of environmentally friendly financing than Asia, though cost issues and an elusive investor base may hinder the market’s development.
Asia will need to search far and wide to meet a huge energy and environmental bill as it turns its back on fossil-fuel dependency. The fast-growing pool of funds in the green bond market seems an obvious solution, but, so far, the region is paying no more than lip service to the concept of environmentally responsible funding.
To change that, the new format will require borrowers to retune their approach to cost and transparency – two areas that have historically proven major hurdles for Asian companies and governments. More incentives are clearly needed.
Tackling climate change will not come cheap. The United Nations Framework Convention on Climate Change agreed at its 2009 conference in Copenhagen that deep cuts in emissions were necessary to keep global temperatures from rising more than two degrees Celsius. Even at the lower end of climate-change predictions, improving infrastructure to make it resilient to more extreme weather could cost an extra US$150bn per year come 2025, according to a 2014 United Nations Environment Programme report.
“It’s difficult to predict how the Asian market will develop. It could be the next big thing, or it could all be hype. We’re hoping for steady growth.”
In Asia, the challenge is not just the cost of transitioning economies away from reliance on fossil fuels, but to do so while supporting sustainable development. That shift will take decades.
China, already the world’s leading investor in renewable energies, had installed grid capacity of 96GW from wind power and 28GW from solar as of 2014. By 2020, output is set to reach 200GW and 100GW, respectively. India plans to generate 175GW of renewable energy by 2022. The question is how to raise enough capital to meet these aspirations.
Domestic bond markets in Asia are able to play their roles. China’s renminbi market, for instance, has almost US$200bn of climate-aligned bonds outstanding, according to the Climate Bonds Initiative (CBI), an investor-focused NGO committed to mobilising debt capital markets for climate-change solutions. The issuers of such bonds are businesses related to climate change, such as wind power or infrastructure companies, but they are not necessarily compliant with sustainable development principles, unlike green bonds.
However, China’s bond market is atypical and many regional domestic markets are insufficiently developed to accommodate anywhere near the kind of financing required. This is where “greening” can play its part.
Green bonds conform to the Green Bond Principles (GBP), voluntary guidelines that recommend transparency and disclosure, and promote integrity. The asset class emerged around 10 years ago and has grown in size and sophistication since. Issuance of green bonds totalled US$36.6bn in 2014, three times more than in 2013. A further record may be in store for 2015, with supply of green bonds just shy of US$30bn up to mid-October, according to CBI. Momentum will have to build quickly, however, if issuance is to reach the 2020 target of US$1trn, which some optimists have set.
There are four main components of the GBP: use of proceeds; the process of project evaluation and selection; management of proceeds; and reporting. The intention is to move the market towards consistency.
“The market benefits from the guidelines and standards, but they are not too stringent and they allow some flexibility,” said Chris Wigley, senior portfolio manager at Mirova, the asset management division of Natixis devoted to responsible investment.
Adherence to the GBP comes at additional costs for issuers, as second opinions and annual reporting are required. These extra costs are holding back Asian issuers from embracing the market, especially as green-certified bonds have been trading flat to conventional corporate credit spreads.
“Certified green bonds are very popular in Europe, but not so much in Asia,” said Thiam Ng, senior economist at the Asian Development Bank. “Borrowers will need the certification, however, if they are to attract international investors.”
Wigley supports that view. “We’ve found that some issues from emerging markets sometimes do not meet our required standards of transparency and impact,” he said.
So far, Asia has been relatively slow to target the environmentally focused international investor. The ADB estimates that just 0.2% of outstanding green supply comes from the region (ex-Australasia). Deals, of various hues of green, have emerged, but some were arguably more marketing exercises around existing assets rather than expressions of deep commitments to further development.
Yet, there has been some progress. The ADB launched its inaugural green bond in March 2015, on-lending funds to a specific sub-portfolio of eligible projects and offering regular monitoring and reporting.
Other issuers have been on the road to trumpet their green credentials as they realise the investor-relations benefits of environmental marketing.
“We see issuers from Asia on roadshows and they are open to feedback as to what we need in order to make an investment decision,” said Wigley.
Increasingly, green issues have appeared from China and India in 2015 and players predict there will be many more to come. Indeed, Agricultural Bank of China launched a dual US dollar and offshore renminbi offering in October promoting China’s green initiative.
“A sizable portion of the US dollar deals went into green Investment funds in Europe and that number seems to be increasing with every transaction,” said Avinash Thakur, co-head of Asia Pacific debt origination at Barclays, one of the joint global coordinators on the deal.
Investor incentives
The supply side may be waking up to the benefits of going green, but the investments are still lacking in Asia.
“The institutional investor base for fixed income is not as developed in Asia as in the rest of the world,” said Ng. “There are, unfortunately, fewer funds to put to work in the region.”
This suggests that Asia’s green bond market will develop differently to that in Europe, where issuers and investors have adopted a self-regulatory approach. In Asia, there are calls for governments to play guiding roles.
China is introducing a variety of incentives to help develop its market, including the need of an independent evaluation system, tax incentives, preferential risk weighting in bank capital requirements and fast track issuance programmes.
“What happens in China is what counts in East and South-East Asia,” said Sean Kidney, CEO of the CBI, who noted that other countries in the region were in close consultation with China with regard to developing their own green credentials.
There is also progress on the all-important buyside – albeit marginal.
“We’re seeing green funds starting to open up in Korea and Japan,” said Kentaro Kiso, head of fixed-income syndicate, Asia Pacific, at Barclays.
It is not just in the more-developed, regional countries where green investment seeds are sprouting.
One of the most significant developments this year, according to CBI’s Kidney, was news from the Life Insurance Corporation of India (LIC) that it was keen to support green bonds.
“LIC’s involvement is a milestone in the development of the green bond market,” said Kidney. “It’s the first institutional domestic investor we’ve seen in the market and it looks like the Indian situation could shape up to be the same as in Europe and the US.”
Undoubtedly, there are positive noises emanating from Asia around environmental issues, and the region is investing heavily in renewable energy. It has no choice.
“Clearly, we cannot continue on the path of fossil-fuel consumption,” said Ng.
As to whether or not that commitment will be transformational is still open to debate as the green bond market in Asia is still in its infancy.
“It’s difficult to predict how the Asian market will develop,” said Wigley. “It could be the next big thing, or it could all be hype. We’re hoping for steady growth.”
“Every nascent market comes with risks,” says Kidney. “Transparency and investor demand are certainly two of the risks, but, if you live in one of China’s cities, there is no escaping the need to address the issues of air pollution, water pollution and a choking transport infrastructure.”
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