16 February 2022

Ensuring the integrity of sustainability bonds as more issuers enter the market

Currently topping Bloomberg's corporate and government global green bonds league table of 2022 so far and having consistently ranked in the top 3 for market share in social and sustainable bonds over the last few years, BNP Paribas is at the forefront of where the market is developing

The bank's head of sustainability research Trevor Allen, predicts another bumper year across both green and sustainability-linked bonds. He forecasts a total green bond issuance of $900 billion in 2022, an increase of 68.6% from 2021, according to Environmental Finance Data. In addition, Allen predicts the sustainability-linked bond market to hit $220 billion this year, which is growth of 135% on what we saw in 2021 in this market.

Environmental Finance: What do you expect from the sustainability bonds market in the year ahead?

Agnes GourcAgnes Gourc: We see a big interest from corporates for sustainability linked bonds, both from investment grade and high-yield segments. It's fair to say that last year most of the high-yield sustainable bonds have been in sustainability linked format.We expect growth will carry on in that segment.

The big question for 2022 in sustainability-linked bonds will definitely be around sovereigns, supranationals and agencies (SSAs) and bank issuers. At the moment, out of the three types of issuers we have only seen a very limited number of examples of banks and SSA accessing this market.

In addition, compared with other types of sustainable bonds, sustainability-linked transactions are not limited by the size of the projects, which needs to be identified for a green, social or sustainability bond.

That's an additional feature of the market growth. We worked on the Teva transaction, a pharmaceutical company, in 2021 and that was the largest sustainability-linked bond ever. They did a multi-tranche offering, across USD and Euros, which were all in sustainability-linked format.

On the use of proceeds side, social bonds have been driven by Covid-related transactions in recent years; in essence SSAs coming with measures to support employment in the pandemic. You would expect less of those transactions in 2022, so that may be an area that will stabilise. Corporates haven't really come to that market yet either, so you don't have that relay of growth.

Green bonds is the steady one over the years. Effectively when you look at volumes it's about 50% of the sustainable bond market, over the last two years, and it keeps growing strongly. I would expect that momentum to continue. There's an interesting dynamic in Europe with the regulations coming, which means a lot of ESG investors will look at green bonds in Europe with a new perspective, as they have to start reporting on EU taxonomy alignment.

EF: Is the market becoming more aware of what is materially relevant in sustainable bonds?

AG: Definitely and there are a few reasons. Sustainability- linked is a fairly new instrument, we worked on the first ever sustainability-linked bond for Enel in 2019 and the International Capital Markets Association (ICMA) Principles were published in June 2020, so it's still a fairly nascent market. However, last year sustainability-linked made about 10% of the overall sustainable bond market, so the market now has a decent amount of precedents across multiple sectors.

"The big question for 2022 in sustainability-linked bonds will definitely be around sovereigns, supranationals and agencies (SSAs) and bank issuers." Agnes Gourc

In sustainability-linked format, the issuer is expected to publish an annual report on where it stands on all the key performance indicators (KPIs) it's integrated in the transaction, so investors get to see year on year how the company has progressed on those KPIs, and most importantly the factors that have driven that progression. That builds on the market understanding and knowledge.

BNP Paribas is an executive member of the ICMA Principles, which have historically proven the value of promoting transparency to increase the robustness of the market.

EF: With a rapidly growing market, with new issuers entering, how do you ensure integrity, and avoid greenwashing, without limiting its size?

Constance Chalchat
Constance Chalchat: This will be a strong focus year. How do we ensure integrity, how do we ensure sustainable finance remains something which brings added value to finance.

Greenwashing can happen because of two possible risks. The first is linked to the company, it can have ambition when it comes to a sustainable plan but their sustainable plan may not be not robust enough at this stage to be fully credible. In this case, we strongly advise the company not to issue sustainable debt. Our recommendation is to start with a plan, we can be in situations where we advise on what is the right plan, what is expected by stakeholders, what is credible, what are the indicators to disclose and progress on.

The second risky area is at the transaction level.We strongly support the new EU green taxonomy as it clearly defines what is and isn't green.We welcome the implementation of certain standards this year defining green assets for green diverse issuances. The other type of issuances where we can see greenwashing risk are KPI-linked transactions. In this case, we look at the materiality and ambitiousness of the KPIs chosen. So we have, internally, the list of what KPIs are deemed as material for a given sector. For instance, a mining company that could be electricity they use and how sustainable they are in energy usage, as electricity would count for a large part of their carbon emissions. Another mining KPI could be protection of the local population, robustness of infrastructure, and fair employment practices etc.

Likewise, for a beverage company, the most material KPIs would be plastic and water usage. So in this case we would have a strong dialogue with the company on what credible KPIs to choose.We then look at the ambitiousness of the KPIs and as a leader in sustainable finance, we can provide a serious benchmark, best practice transaction in the market to guide them as to what is expected when it comes to ambition.

Finally, we need to address the symmetry of bonuses and penalties. Typically for KPI-linked finance, if a company reaches their objectives they'll get a discount, a bonus, if they don't they should pay a penalty. We have seen transactions in the market where the company gets a discount if they reach their objectives but they don't get any penalty if they don't. This is increasingly criticised.

The make or break of the market this year is ensuring real impact, giving confidence to investors that they can really have impact and then how able are the banks and clients to bridge the sustainable financing gap.

We need corporates to issue more environmental, social and governance (ESG) and green papers that are solid, robust, serious and impactful. If we are able to do this, there's massive amounts to be invested by investors looking for impact paper. I strongly believe it's the year of the principal scale up, provided the market is not killed by greenwashing. I strongly encourage corporates to rely on rigorous, expert banks that can advise them to do the right thing.

We're moving from an opportunistic, deal driven market to one which is a strategically ESG infused market. ESG was something that was a niche segment that grew up and developed, but this year is the shift to it becoming the mainstream market. It has become something that is the strategic focus of the vast majority of institutional investors and corporates today.

EF: How is the growth of awareness of materiality affecting corporates?

Trevor Allen

Trevor Allen: The turning point was really Conference of the Parties (COP) 26. We saw more attendance from corporates than at any previous COP meeting. We know that corporates largely went there with an idea that they wanted to influence COP, but what actually happened was they became quite influenced by COP through governments and the different groups that were there proclaiming how climate change was impacting us now. The corporates really get a sense now of how they need to change their business activities.

So it's this nascent view of how corporates are actually going to change their business activities in a meaningful way. One of the quickest or most straightforward ways to do that now is renewable energy. So we're certainly seeing more demand from corporates for renewable energy and if you look at the Power Purchase Agreement (PPA) market in the US that's up-ticking now, as it is in Europe.What companies are looking for in these PPAs is specifically green energy on the back of that.

Green CAPEX and green bond issuance is a way for corporates to finance greening their business activities, and to also explore how they can green their supply chains. We also know on the auto sector, investors very much want to see more green debt coming from the automakers, i.e building more electric vehicles.

EF: What will be the main drivers for sustainability bonds for SSAs?

Myriam Zapata: In terms of the innovations we have witnessed recently, the biggest step was the sovereigns entering the market. They provided the liquidity that was necessary to unlock all that investor appetite that was latent and just waiting for someone to provide the green bonds in size so they could commit to larger amounts of investment.

We have seen this in the last couple of years, particularly as more sovereigns come in to play, so every day we see more green funds opened by investors and more public commitments made out loud. This is obviously triggered by the sovereigns providing that liquidity.

The next step now, in addition to seeing more sovereigns jumping on because we haven't seen it all yet, is going to be the quality. First is the quantity, then it's going to be the quality, and the quality often comes from the SSA sector. All the conversations on greenwashing, the importance of transparency, quality of impact reports and ESG ratings are the focus going forward.

EF: What impact will more corporates joining the market have in SSA activity?

Laurent Leveque

MZ: The role of SSAs and the public sector is to make sure that their best practice cascades down to the corporate and financial institutions. That's really going to continue, and capacity building remains at the core of SSAs, along with liquidity. That sets the stage for others to be able to follow, and it's the whole drive of public and private money so we can solve the climate issue together.

Laurent Leveque: It's not a competition between the two worlds. SSAs keep coming and usually have a big share of the total issuances because they're big by nature, and often issue larger volumes than corporates. They're clearly setting the standards for the market.

EF: How are net zero targets and transition strategies influencing financing needs across carbon intensive sectors?

Séverine Mateo: Net zero targets are becoming the new normal for corporates, and the financing needs within carbon intensive sectors remain high. Scaling up tangible investments towards a material net zero transition will be critical. As the sustainable bond market develops to address net zero challenges across the economy, the industry is harnessing sustainable market innovations – including science based targets integrated within bonds – to scale up transformative solutions including hydrogen, battery technologies, electric vehicle charging and carbon capture.  

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