Labelled bond-market veteran NRW.BANK is continuing to refine how it mobilises sustainable capital for North Rhine-Westphalia's real-economy transformation, while advancing ESG integration in its own investment portfolio. Felix Baumann and Justin Pelka explain
Environmental Finance: NRW.BANK is a veteran of the sustainable bond markets. Can you introduce the bank and explain its approach to funding itself?
Felix Baumann: As the promotional bank of the German state of North Rhine-Westphalia, it is our role to support the state government as an economic policy instrument in achieving its structural policy objectives. To do this, we deploy various promotional instruments, primarily subsidised loans, but also increasingly grants – always tailored to the specific financing needs of our borrowers.
Although we are fully state-owned, we neither receive any funding from the state, nor do we pay any dividends or surpluses back to the state government. Instead, we refinance ourselves in the capital markets, raising about €11-13 billion ($13-15.3 billion) per year across a broad set of instruments, tenors and currencies. Given that our promotional activities are closely linked to all three dimensions of sustainability, we have naturally developed into a consistent and reliable issuer of green and social bonds. As a key pillar of our funding strategy – alongside our conventional benchmark-sized issuances in euros and US dollars – we issue every year at least one green and one social bond in benchmark size, typically ranging from €1 billion to €1.5 billion each. To be able to provide subsidised loans, we generate surpluses through our investments.
EF: You are about to publish an updated Green Bond Framework. What changes are you introducing?
FB: Our main objective in updating our Green Bond Framework was to keep up with evolving market expectations and dynamics, mostly triggered by the increasing relevance of European Green Bonds. It is our ambition to align our green bond programme closer to the EU Green Bond Standard (EU GBS), for example, by voluntarily disclosing the share of Taxonomy-aligned assets for each bond.
While the EU GBS represents the gold standard for green bonds and the EU Taxonomy provides a robust guideline for defining environmentally sustainable activities, NRW.BANK's mandate is more diverse and complex than the scope of the EU Taxonomy. Therefore, there will continue to be legitimate financing needs that don't align with it. Rather than maximising green issuance volume, our focus is on identifying the intersection between dark green promotional activities and investor demand. Active investor dialogue is a core principle we have always lived up to, and that enables us to continuously improve the quality, robustness and transparency of the impact delivered through our labelled products. Increasingly, investors mention the importance of social co-benefits associated with green investments. With the updated framework, we are therefore piloting a set of selected KPIs designed to capture the positive social and societal outcomes of green investments.
EF: Can you elaborate on those co-benefits? How are you evolving your measurement and disclosure of impact?
FB: We're in the fortunate position of working closely with a local partner, the Wuppertal Institute, one of Germany's leading research institutions focusing on environmental issues, which conducts the impact measurement for our labelled bonds. Given our long-lasting business relationship and the institute's regional presence, it has a deep understanding of our role and the impacts we seek to achieve with our promotional activities. It serves as an invaluable sparring partner, challenging, refining and strengthening the methodologies and rationales that underpin our impact measurement and reporting.
Impact is at the core of both our promotional mandate and our labelled issuances. A concrete example, besides CO2 emission reductions, I enjoy highlighting is the financing for a flagship European nature restoration project, and part of our green bonds since 2013: the restoration of the Emscher river here in North Rhine-Westphalia (see chart). Once heavily polluted and used as an open sewage system, the Emscher has been transformed back into a thriving river ecosystem. Through our green bond programme, investors have supported the restoration of large parts of the river system, enabling biodiversity to recover and key species to return – including endangered ones.
Importantly, the benefits extend beyond nature. Communities along the river benefit from improved environmental conditions, for example, by enjoying increased climate resilience through nature-based flood prevention, the decrease of sewage-related air pollution as well as increased tourism. These benefits translate into tangible improvements in quality of life, illustrating how people benefit when nature benefits.
Emscher river biodiversity status improves significantly
EF: This follows your updated Social Bond Framework last year. How were those changes greeted by the market?
FB: The NRW.BANK Social Bond Framework was introduced in 2020, so it is comparatively young next to our Green Bond Framework, which has been in place since 2013. Over recent years, we have experienced a steep learning curve, and have seen market expectations for social bonds increase, particularly with regard to transparency, target population definition and impact reporting.
With our Social Bond Framework update, we have evolved alongside these rising standards and have further refined our rationales and methodologies for measuring impact, especially when it comes to showing how our financing addresses disadvantaged or underserved parts of the population of North Rhine-Westphalia.
Social impact is inherently more contextual than, for example, the reduction in greenhouse gas emissions. Social impact must always be evaluated in relation to local conditions. This more nuanced perspective makes social impact more complex to capture and often less comparable – similar, in many respects, to biodiversity-related impacts.
One specific example is the structural transformation of the economy in North Rhine-Westphalia: from fossil fuel-based heavy industry, powered by lignite and coal, towards a more diversified, service- and technology-oriented economy. Since the 1990s, parts of the region have faced significant challenges in this transition, including above-average unemployment, highly indebted municipalities and delayed investments in public infrastructure. NRW.BANK Social Bonds are designed to help alleviate these structural disparities in line with our mandate as a promotional bank. Whether financing education, healthcare, housing, small and medium-sized enterprises (SMEs) or municipal investments that deliver public goods, the common denominator is always supporting a disadvantaged target population: through employment generation in structurally weak regions, affordable housing in high-pressure urban markets, or safeguarding essential public services in financially constrained municipalities.
EF: NRW.BANK subsidises its promotional lending with investment returns generated from the asset side of the bank. How do you integrate ESG considerations into those investments?
Justin Pelka: First, I would like to highlight that we pursue a very conservative investment strategy in our investment portfolio, with the vast majority being public risks and a small exposure to covered bonds or senior preferred bank bonds, as well as corporate risk. NRW.BANK has been committed for a long time to integrating sustainability considerations into its investment activities, including comprehensive climate management measures. One central objective is to ensure that our investment portfolio is aligned with the overarching climate goals of our sole owner, the state of North Rhine-Westphalia.
In accordance with that, NRW.BANK's aim is to achieve a climate-neutral investment portfolio by 2045. To support our ambitions, we are using the Implied Temperature Rise (ITR) metric as a key element of the climate management approach within our corporate portfolio, along with a range of other measures defined in the bank's ESG Investment Framework. Broadly speaking, the ITR estimates the global temperature increase – from 1.3ºC to 10ºC – that would result if an issuer's emissions trajectory were applied to the entire economy.
As a result of our climate management approach, an issuer's ITR performance is considered in our internal risk assessment with direct consequences to its limits. Over the past few years of applying our climate management approach, we have gained several important insights.
First, the ITR, like any forward-looking climate metric, is still relatively new and continues to evolve. It is therefore natural that providers refine their methodologies more frequently at this stage, for example, in response to client feedback. In addition, the ITR calculation depends partly on the remaining global emissions budget and therefore on the broader global climate trajectory.
In practice, it has also proven essential to strike the right balance between climate ambitions and portfolio diversification considerations. While the ITR provides valuable guidance for our climate considerations, it is important not to place too much emphasis on the metric's complete precision and to continue assessing the issuer's overall profile. Finally, for the approach to be used effectively, it has been crucial that all relevant teams and stakeholders share a common understanding of the metric and its key influencing factors.
Building on our climate management experience on the corporate side, we are continuously looking to extend it to our entire investment portfolio. We are particularly interested in analysing how we can extend climate management to the public asset class, since it makes up the largest share of our investment portfolio. However, there are specific challenges associated with the application of climate management measures in this asset class – e.g., a naturally limited number of issuers (compared with the corporate investment universe) and difficulties with reducing exposure to (or replacing) certain issuers, such as reserve currency states.
There have been interesting developments in this area recently, with some of the leading data providers releasing climate management metrics for public issuers.
EF: Specifically, what approach are you taking to climate accounting and reporting?
JP: One thing to note is that, under German law, there is an exemption from the Corporate Sustainability Reporting Directive (CSRD) for promotional banks that have a balance sheet figure below a certain threshold. While this means that NRW.BANK is currently not actually required to report under CSRD, we have chosen to voluntarily prepare and publish a report and will continue to do so, in order to help strengthen sustainability-related transparency in the financial markets. This also goes hand-in-hand with our broader commitment to comprehensive sustainability reporting to our investors and stakeholders.
ESG-related management of the corporate portfolio
Furthermore, it means that we report our financed emissions in line with the Partnership for Carbon Accounting Financials (PCAF) standard. As the PCAF standard and its methodologies continue to evolve, and as data availability improves, we will continue to enhance our internal reporting capabilities.
At the same time, it is important to acknowledge that there are still some challenges when it comes to PCAF reporting, such as limited data coverage and data quality concerns. Overall, however, we are confident that we are going to keep seeing improvements over time, for example, through collaborative efforts of policy makers, data providers and the reporting institutions themselves.
EF: Looking forward, how is the context evolving for NRW.BANK's promotional lending and your investment portfolio?
FB: Geopolitical dynamics do not stop at the doorstep of a regional promotional bank. As the industrial heartland of Germany, North Rhine-Westphalia has been particularly exposed to the economic shocks over the past few years. The federal government's infrastructure package will provide urgently needed capacity for investment. Whatever shape the disbursement of funds will take and however it alters the promotional landscape in Germany, we are well positioned to complement and leverage these investments with our promotional programmes.
The encouraging news is that, even without the flow of funds having started yet, we see record demand for green infrastructure projects. While there is a perception of negative sentiment towards ESG investing, we don't see any decline in green and social lending – in fact, it's the opposite. That said, scepticism towards ESG has reinforced the importance of integrating social co-benefit impact reporting into our Green Bond Framework. It's an effective way to demonstrate that green investments deliver tangible social value and have societal materiality – without an ideological agenda.
Regardless of how the borrowers' needs evolve, we will remain a reliable partner – in providing impactful promotional financing for companies, municipalities and individuals, and in enabling investors all around the world to participate in these success stories.
JP: I can only agree on that from the investment side. It has been noticeable that ESG blowback has led to reduced publicly communicated ambitions in certain areas and the refocusing of reporting toward simplification and harmonisation. At the same time, it is encouraging that we see that many investors are maintaining their commitments to integrating sustainability into their business activities and their investment portfolios. At NRW.BANK, we continue to stand firmly with those investors, maintaining a strong sustainability focus, based on our mission and our mandate.
Felix Baumann and Justin Pelka are both specialists in ESG and investor relations at NRW.BANK in Düsseldorf, Germany.
For more information, see: www.nrwbank.de/en/about-us/sustainability/sustainable-capital-market-business/index.html#Bonds