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Mobilising climate-friendly private capital

by Christian Déséglise

Mobilising climate-friendly private capital


An estimated $80tn-$90tn of investment is needed over the next 15 years to mitigate the impact of man-made climate change and limit global warming to two degrees Celsius.

Damage caused by Hurricanes Harvey, Irma and Maria in August and September is expected to exceed $70bn, according to insurers. The prospect of more frequent extreme weather events illustrates the growing financial risks associated with climate change.

The growth of the green finance market aims to address this challenge by integrating environmental, social and governance principles into investment decision-making. However, the green bond market remains in a relatively embryonic state, with issuance expected to be no more than $200bn during 2017.

A green bond market study by HSBC, published in August, reveals how boardrooms are adapting to these conditions. The number of corporate issuers with a strategy in place to reduce their environmental impact grew, albeit slowly, to 53% from 49% between 2016-17.

Demand for green assets is growing, but supply continues to lag. The public sector must play a sizeable role in bolstering green investments to realise the benefits derived not only from mitigating climate change, but also from fostering economic growth and future job creation.

Public-private collaboration
The first task for the public sector is to help align fully the financial system with the goals of sustainable development. This is a challenge in developing markets where, the HSBC market study shows that, the adoption of environmental impact strategies and the disclosure of those strategies is relatively low among corporates. Capital constraints in these countries need to be addressed. Access to international capital markets may be limited and local markets will often be under-developed, limiting firms’ ability to finance green investments.

Most of the required $80tn-$90tn investment will come from the private sector. Central banks, regulators and politicians should collaborate with market practitioners – including international financial institutions, banks, institutional investors, market-makers such as rating agencies and stock exchanges – to mobilise capital for sustainable investment. One of the key microeconomic barriers highlighted in HSBC’s study is the need for standardised reporting and disclosure rules to help reduce information asymmetry. Some progress is being made; the rating agencies Standard & Poor and Moody’s will publish their new environmental, social and governance ratings in autumn 2017. But progress needs to accelerate.

Ensuring market unity
The report revealed that only three-fifths of European companies disclose their environmental strategy. Notably, 56% of investors who participated in the HSBC study believe the levels of disclosure about the climate-related risks faced by businesses they invested in are highly inadequate. As the Financial Stability Board’s taskforce on climate-related financial disclosure highlighted in its report in June this year, ‘Without the right information, investors and others may incorrectly price or value assets, leading to a misallocation of capital.’ The report set out several recommendations, such as including climate-related financial disclosures in public annual financial filings.

However, while these developments are welcome in creating a new market framework, HSBC’s findings show less than 10% of corporates believe the taskforce on climate-related financial disclosure is a notable factor behind environmental impact and disclosure strategies. Instead, corporates see investors and international policy-makers as the primary drivers of green financing and disclosure shifting the focus from voluntary to mandatory approaches.

The French government has taken the international lead by introducing mandatory climate change reporting for institutional investors at the beginning of 2016. Corporate issuers broadly welcome this top-down approach in helping to create greater market clarity and certainty.

Further efforts to stimulate demand and supply will be required; 82% of investors in the HSBC survey thought there was a lack of credible investments. Diversifying the range of green financial instruments to cover mortgages and securitisation will help. The public sector can assist by ‘greening’ its own investment strategies. With total holdings estimated at $33.8tn, public investors represent a core component of world capital markets and a major promoter of green investments.

Throughout 2016 and 2017 public investors have played a growing role in financing green assets. In December 2016, Poland became the first country to enter the green bond market with a modest €750m issue. France issued its first green bond with a record €7bn sale in January 2017, paving the way for the establishment of a large-scale market in renewable energy bonds.

International political support
There have been several political initiatives to address climate concerns. In 2015, the G7 made a commitment to phase out fossil fuels by the end of the century. The 2015 Paris climate change agreement introduced country-specific commitments to reduce emissions. Despite – or thanks to – President Donald Trump’s negative comments about the Paris agreement, the international community’s eagerness to address these issues is stronger than ever.

Further initiatives are expected at the next United Nations climate change conference, which will be held in November in Bonn. With December marking the second anniversary of the Paris accord, President Emmanuel Macron will host a climate change summit focused on financing the transition to a low-carbon economy.

The international agenda must prioritise the development of capital markets for private funds, standardising rules on market disclosure, and stimulating the supply of public sector green investment.

Christian Déséglise is Global Head of Central Banks and Co-Sponsor of Sustainable Finance at HSBC. HSBC research is for professional clients and eligible counterparties only. Not for retail customers.