Posted on 12 November 2021
Green Loans, Green Bonds, and ESG Trends
When Anheuser Busch-InBev’s subsidiary Budweiser Brewing Company APAC signed its first sustainability-linked loan in July with the Bank of China, it was more than a financial deal. Signing the paperwork for the USD $500 million credit revolving facility – a so-called green loan – proved the company’s commitment to integrating sustainability into all aspects of their business.
Green loans and green bonds aren’t new — they go back about 15 years — but they are growing in popularity as part of the green financing trend. Green financing is designed to move money to sustainable development priorities, but for the lender, borrower, and investor it can also have the benefit of improving a company’s Environment, Social, and Governance (ESG) scores. According to Scott Reid, Alter Domus’ Head of Debt Capital Markets, Asia Pacific, ESG is a new way for investors to analyse risk.
Among other things, ESG scores allow investors of green loans and bonds to evaluate the behaviour of the issuing companies before committing. “ESG reflects a change in thinking in investment practices: In addition to gauging long-term profitability of investment candidates, investors have started to think about the non-financial data points such as a company’s commitment to environmental or social issues,” Reid says.
Is it all about Reputational Risk - or is there more to it?
This interest in non-financial data is being driven by a few forces.
For starters, investors see the data as an indicator of the long-term sustainability of a project. They know that consumers and the financial market are paying closer attention to businesses that strive to create a more sustainable physical and social environment, and they see those efforts as an indicator of future profitability. In other words, financial credit risk is still foundational, but now investors want to understand the mindset behind the investment. Will it work to heal or destroy the environment? Is the investment attentive to the needs of only one segment of the population or the population as a whole? Today's investors are using these additional risk profiles to make financial decisions.
Reid says that in the past, investors would simply choose to invest in things that were considered green in the broadest sense. For instance, they might avoid putting their money in cigarettes or coal mines, and that was enough to convince them that they were doing the right thing. Investors focused primarily on reputational risk.
But times have changed. “Now, investors want to understand the lens people use when putting together bonds or other investment opportunities and be convinced that they can make a significant, long-term difference,” Reid says.
Secondly, governments across the world are increasingly requiring ESG reporting standards from public companies so their economies and companies won’t be cut off from the global market. To help move ESG forward, they are creating frameworks to standardise the system. For instance, the European Commission created the EU-wide classification system in 2018 that provides a common language that identifies which economic activities should be classified as environmentally sustainable.
“It all comes down to this: we can either use finance as merely an arbitrage platform to solve the lender/borrower conundrum, or we can use it to make the world a better place.”
Scott Reid Head of Debt Capital Markets, Asia Pacific at Alter Domus
The Growth of Green Loans and Bonds
A green loan is exactly like its more traditional counterparts, with one exception: In addition to the more familiar goal of financing a project, it also seeks to better the environment. It is a loan linked to sustainability. For instance, a commercial real estate developer might secure a green loan to build a project that incorporates water conservation and other environmentally sustainable aspects within the project scope.
Green bonds have a similar purpose. For example, some states in the US now issue green muni-bonds. Instead of using the funds to finance infrastructure projects, these bonds seek to improve environmental concerns such as cleaning up pollution, improving water quality, and financing renewable energy projects.
Europe led the way in green financing by creating the first green bond more than a decade ago. Issued by the European Investment Bank, the bond was created to raise funding for climate-related projects. Nearly a decade later, the Bank of China got onboard, issuing a green bond that appeared on the Luxembourg Stock Exchange. While the US has been slow to catch up, Bank of America says that in the first half of 2021, the country issued USD $122 billion in sustainability-linked loans. That’s up from USD $19 billion in 2020.
While green financing and ESG are on the rise, not all ESG is created equal. Reid says that “In Europe, investors focus on the environmental aspect of the scoring system, while both the US and APAC tend to concentrate on social and governance issues.”
What's the Future of ESG?
It’s difficult for Reid to hide his enthusiasm when speaking about the future of ESG and its possibilities. He believes that the ability to connect environmental science and ESG reporting mechanisms will change the investment world, creating firms that employ scientists, lawyers, software engineers, and financial experts who work together to innovate and educate a world ready for a more sustainable and just environment.
“The current challenge is wrangling all of the data, especially from non-public companies, and organising it in a way that is useful to investors,” he says. Although a few companies now provide that data, he is confident that innovators will emerge to make it even more useful.
But his zeal doesn’t end there. Reid believes that in the not-so-distant future, investors will use ESG data as a source of predictive capabilities not currently available. In other words, he believes that the combination of ESG plus AI plus diverse data sets will provide greater insight into the overall performance of organisations. Reid thinks ESG will swiftly evolve from a niche investment strategy, to encapsulate big data-driven predictive capabilities.
“I believe that stakeholders will soon discover that not only is ESG good for society, but that it can be a defining competitive advantage for those organisations that learn to leverage the power of diverse data perspectives to generate additional alpha,” he said.