Capital markets around the world issue green and social bonds

Alongside significant political efforts to speed up the energy transition, 2021 was a record-breaking year for green finance, as governments, international institutions and lenders alike sought to support the shift towards renewables. This mirrored developments in generation: new renewable energy capacity reached an all-time high of 290 GW in 2021. Meanwhile, the issuance of green bonds – financial instruments that fund environmentally sustainable projects – was expected to hit a new record of $500bn that year, according to the Climate Bonds Initiative (CBI). This marks a 46% increase on the 2020 figure of $270bn, which itself was a record.

The EU’s $14bn issuance of green bonds in October 2021, the largest of its kind to date, was emblematic of the increased appetite for sustainable finance. The money raised is being distributed among member states for clean energy projects and developments to help governments achieve carbon neutrality by 2050. While Europe is a leader in the issuance of green bonds, a number of emerging markets have made significant progress on this front.

For example, in April 2021 Saudi tourism project developer The Red Sea Development Company secured a SR14.1bn ($3.8bn) green bond from four Saudi banks, with the funds to go towards building 16 renewable energy-powered hotels across the country. Meanwhile, in a sign of the green potential of Islamic finance, in June 2021 Indonesia raised a $3bn sovereign sukuk (Islamic bond) to fund sustainable development projects. Highlighting potential future growth, the CBI predicts that green bond issuances will breach the $1trn mark in 2023.

Sustainability & Blue Finance 

Although green bonds are the most prominent form of climate-focused finance, the development and expansion of a number of other innovative financial instruments have also supported the shift towards decarbonisation. For example, social bonds, which raise money for projects with positive social outcomes, and sustainability bonds – a mix of green and social bonds – have grown dramatically since 2020, on the back of attempts to build a sustainable platform for post-pandemic economic growth.

Elsewhere, blue bonds have continued to gain traction in recent years, even though they account for a considerably smaller portion of market share. Similar in their function to green bonds, blue bonds are debt instruments issued to support investment in marine-friendly initiatives and the blue economy. Following the launch of the world’s first sovereign blue bond in 2018, when the Seychelles raised $15m from international investors to help fund the expansion of marine areas and improved governance of the fisheries industry, a number of institutions have launched their own. For instance, in September 2021 the Asian Development Bank issued its first-ever blue bond, a $151m, 15-year issue that will finance ocean-related projects in Asia and the Pacific.

Meanwhile, in one of the more innovative developments in recent times, in September 2021 Belize launched a debt-for-nature swap as part of a strategy to restructure its sole sovereign bond. Under the proposal, Belize offered to buy back its debt at a significant discount in exchange for increasing efforts to protect its marine environment. While it was not the world’s first debt-for-nature swap – Bolivia made the first such deal in 1987 – the development could set a precedent for emerging markets looking to raise funds, particularly given the increasing focus on environmental, social and governance metrics. These tools are especially likely to appeal to island or coastal emerging markets, such as those in Asia Pacific, many of which suffered economically as Covid-19 triggered declines in tourism.

Funding the Transition 

In addition to funding new, environmentally friendly projects, global financial markets have turned to specific tools designed to ensure a responsible transition towards low-carbon sources of energy. One such instrument is the transition bond. A relatively new class of debt instrument, transition bonds are used to fund a company’s transition towards reduced environmental impact or lower carbon emissions. They are often issued in fields that would not normally qualify for green bonds, such as large, carbon-emitting industries like oil and gas, iron and steel, chemicals, aviation and shipping. Although this is still a nascent segment, there were 14 transition bond issuances worth $5bn in the first nine months of 2021, according to the CBI, accounting for more than half of the $9.9bn issued since their inception in 2018.

Elsewhere, the COP26 UN Conference on Climate Change, held in Glasgow in November 2021, provided a boost to other transition-related solutions. Amid other emissions-based pledges, world leaders agreed to reform global carbon markets, as well as on a universal set of rules for carbon trading, seen as key tools in the transition towards decarbonisation. Many expect the COP26 developments to lead to a notable increase in climate-friendly investment across lower-income nations.

Also in November 2021, France, Germany, the UK, the US and the EU announced a groundbreaking plan to help fund South Africa’s energy transition. With an initial commitment of some $8.5bn, the partnership aims to save between 1bn and 1.5bn tonnes of emissions over the next 20 years, by accelerating South Africa’s shift away from coal and towards low-emission sources of energy.

Fossil Fuel Finance

The increase in demand for sustainable finance has naturally coincided with a broader move away from funding fossil fuel projects. Indeed, on the sidelines of COP26 – where signatories agreed to phase down the use of coal, among a range of other climate-focused policy commitments – 34 countries and four international finance institutions signed up to a separate pledge to end financing for “unabated” fossil fuel projects in overseas countries by the end of 2022.

This followed similar large-scale commitments that were made by China, Japan and South Korea, while in May 2021 the Asian Development Bank announced that it would no longer fund coal mining or oil and natural gas production and exploration.

In addition to governments and international institutions, a number of banks and major financial services companies – including HSBC, Fidelity International and Ethos – also agreed to end the funding of unabated coal at the Glasgow conference. In doing so, they joined global lenders like Citi, which announced in April 2021 that it would stop financing thermal coal mining, with a view to eliminating its credit exposure entirely by 2030. These examples have highlighted how large financial institutions can play an influential, and at times leading, role in the energy transition. On a similar note, the insurance industry also has the potential to exercise considerable influence in the global shift towards decarbonisation. A notable example of this was seen in July 2021, when 20 of the world’s largest insurers and reinsurers – including AXA, Allianz, Aviva, Generali, Munich Re, SCOR, Swiss Re and Zurich – established the Net-Zero Insurance Alliance. These 20 players represent more than 11% of world premium volume globally. The Net-Zero Insurance Alliance, which is a UN-convened body, has the goal of transitioning its members’ underwriting portfolios to net-zero greenhouse gas emissions by 2050.

This follows action from some global frontrunners, such as Australian insurance giant Suncorp, which in 2019 announced that it would no longer invest in, finance or insure new thermal coal mines or power plants, and that it would not underwrite any existing thermal coal projects after 2025. The company went a step further in 2020, stating that it would no longer directly finance or insure new oil and gas projects, and that it would completely phase out financing and underwriting for oil and gas exploration or production by 2025.

Combatting Greenwashing

While broadly welcomed globally, these shifts towards green finance have increased calls for updated and more stringent rules on what constitutes sustainable finance. Although many countries, institutions and stock exchanges have their own rules, there are concerns that a lack of universal guidelines could lead to widespread greenwashing from governments and private corporations alike, particularly in light of the rapid growth in green finance.

To help address the situation and ensure international best practices, in recent years China and the EU have collaborated on developing joint green investment standards, releasing a report in November 2021 that outlined how green investment guidelines could be aligned. While still at an early stage, this type of cooperation is seen as necessary to facilitating the growth of green finance in the future.