Global ESG acceleration a rising tide for sustainable-debt product and practice
The global sustainable-debt market has traditionally taken its lead from Europe but its innovations are increasingly being adopted globally. Susan Barron, global head of green and sustainable capital markets at Barclays in London, and Jake Hartmann, the bank’s Sydney-based director and head of debt capital markets, Australia and New Zealand, share a view on global developments and lessons for Australian borrowers seeking to align with international best practice.
It is widely acknowledged that demand for environmental, social and governance (ESG)-related debt has historically been led by Europe. But how fast is demand growing – in Europe and elsewhere – and how is this demand shaping issuance patterns?
BARRON While the global pandemic has created and continues to create challenges in capital markets, it has also prompted an acceleration of ESG as a theme.
This has manifested itself in a number of ways. For instance, through increased investor focus on ESG in the form of integration and dedicated investments across climate and social themes.
We have also seen significant growth in ESG bond issuance. In 2020, almost US$500 billion equivalent of such bonds was issued globally, which exceeded original market estimates of US$325-400 billion. Green bonds continued to represent the majority of this issuance, equating to slightly more than 40 per cent. But there was also a notable increase in social- and sustainability-bonds as well as sustainability-linked issuance.
While Europe continues to represent the largest contributor to the global market issuance volume, we also note strong increases in the Asia-Pacific region and the Americas. Public-sector borrowers remain important market contributors, to market development – including social initiatives – and also issuance volume.
Finally, growth has been and is expected to continue to be driven by the support of policymakers, regulators and the increasing standardisation of ESG as companies integrate green- or social-impact targets with their strategies and decisions. This latter development is fuelling ESG growth and product development through instruments such as sustainability-linked bonds (SLBs).
HARTMANN I think the recent €750 million (US$909.6 million) SDG [UN Sustainable Development Goals] tier-two deal that we led for ANZ Banking Group is a great example of market development.
We also led ANZ’s inaugural SDG tier-two in November 2019 and noticed some useful takeaways from the two deals. We had 47 repeat investors and nearly 80 new investors in the second deal, only 16 months after the first.
ANZ is also the first bank to be a repeat issuer of SDG tier-two in euros, which I think is incredibly important for all potential issuers as it lends credibility to the structure as a long-term market innovation rather than a one-off deal.
A small subset of investors is still trying to get its head around the interplay between bank capital and ESG use of proceeds, but this is a technical question that could take up an entire article. I think the growth in new investors, the repeat issuance and the bonds’ subsequent performance are excellent indicators of the market’s growing maturity.
What is the state of play when it comes to investors’ product preferences globally? Is labelled green, social and sustainability (GSS) issuance still the gold standard or are investors now equally welcoming of sustainability-linked product?
HARTMANN We started to get feedback from investors from late in 2019 that goals-linked product, as opposed to use of proceeds, was in some ways their preference. Investors want to feel that they are effecting change – incentivising companies to change their behaviour rather than just funding assets that already exist.
BARRON An issuer’s ability to promote and align its sustainability goals and strategy with specific financing instruments is positive and has been well received by investors. In addition to use-of-proceeds instruments, SLBs also provide this opportunity.
Issuance of sustainability-linked instruments has increased since the publication of the ICMA [International Capital Market Association] principles in June 2020. But it is also complemented by the versatility to structure instruments that incorporate the different demands of issuers and investors.
All expectations are that we will see significant growth in sustainability-linked instruments and that they can complement use-of-proceeds debt.
Sustainable finance needs to have an even greater impact on capital flows to play its part in achieving Paris Agreement and other targets. One of the challenges is that this is not a capital-constrained world. How compelling is the claim that issuers need to have a robust sustainability story without the ‘stick’ of not having access to capital without one?
HARTMANN I’m not sure it is true to say it is as easy to access capital without a good ESG story. When we meet global investors now, increasingly we find mainstream credit analysts don’t need an ESG person in the room to dig in to ESG issues with a borrower. They may not be as deep or fluent as an ESG analyst but they are getting there. I think this tells us that, particularly in Europe, the ESG component is becoming part of the regular credit process. The stick is that it is part of credit screening – a market-access question.
BARRON Other market participants are also providing guidelines and best practice: credit-rating agencies are incorporating ESG into their analysis, policymakers and regulators are supporting ESG disclosure, and stock exchanges are creating dedicated ESG segments.
ESG debt can have a helpful role to play too, as it provides a clear and tangible indication to all market stakeholders not only of broader sustainability commitments but also specific projects and targets.
Two-way pricing for sustainable debt is an interesting concept but it has been suggested that bond investors are less comfortable with it, for various reasons, than bank lenders. Does this type of issuance still have a role to play in the product mix if ESG analysis becomes a fully integrated part of risk analysis?
BARRON I’m sure most market stakeholders hope to reach a point at which all debt is ESG. For now, the market is still developing and issuers as well as investors are at different stages of their own ESG journeys – including how best to fully integrate ESG with risk analysis.
We continue to be buoyed by the growth and interest in ESG but remain hopeful that all market stakeholders will continue to work together to reach appropriate and practical long-term solutions.
HARTMANN As we think about what the timeline might be, I am encouraged by the fact that nearly every conversation I have with corporate Australia has an ESG focus – either from treasury or from boards and management.
Borrowers want to understand what they can do to communicate their ESG efforts to the market. Our role is to help borrowers take their first steps – whether it means looking at a framework, specific labelled issuance or adjusting fixed-income investor materials.
The local market for ESG issuance is also improving, which will provide additional options alongside deeper euro and US dollar markets. We look forward to bringing our global ESG expertise to collaborating with our new partners at Barrenjoey Capital Partners to deliver Australian dollar issuance as well.
Developments in sovereign markets in particular seem to have cemented a pricing advantage for GSS issuance. How reliable is this in global markets, and is it moving the dial for issuers?
HARTMANN Some market participants are now advertising the availability of a significant pricing advantage for GSS bonds. I would caution issuers that there is more to it. A lot of factors go into any bond transaction and any one of them can water down an expected pricing advantage. Generally, pricing is not the primary reason for accessing this market.
This being said, we believe there was a 5 basis point pricing advantage on the recent ANZ transaction we led versus where the issuer might have printed in non-ESG format.
In Europe, we are seeing this advantage move to the 5-10 basis point range. Of particular note, and this is a more recent development, we are telling prospective issuers in the US dollar market that there is likely a 0-5 basis point pricing advantage from ESG issuance. This is a long way from where we were in late 2019, particularly in the US.
Is it still too hard for private-sector companies to incorporate and measure social impact in sufficient scale to support regular and growing social-bond issuance?
BARRON We have definitely seen significant growth in the social-bond market with issuance volume in 2020 more than eight times greater than 2019. While much of the issuance volume can be attributed to public-sector entities, which have mandates that are closely aligned with social issues and outcomes, we have also seen various private-sector companies wishing to contribute to the growth of social bonds. This notably includes companies with socially aligned mandates, such as healthcare and education.
These factors have supported the market conversation to develop not only social themes but also consistent social-impact metrics, which together will hopefully continue to support growth.
HARTMANN Issuers are aware that identifying auditable green assets is a time-consuming and, in some cases, challenging project. Broadening the basket of potential assets can be very helpful for an issuer that is keen to bring a use-of-proceeds transaction.
At the same time, progressing from green to sustainability format is also something of a natural progression for issuers as they become more familiar with the SDG framework.
Another value of social issuance is that many borrowers are keen to make ESG part of their funding ecosystem but are not in industries where it is easy to identify green assets. There may be a lot more they can do on the social or sustainability side.
This is where the conversation starts on sustainability-linked funding, where the focus is on investment in outcomes and communities – areas where the company can make a difference outside its specific area of operation.
BARRON The update of the ICMA Social Bond Principles in response to COVID-19 clarified that financing COVID-19-related initiatives could be considered social assets.
One of the traditional discussion points with social bonds was always how to define the target population – which individuals would benefit from a project or asset. With COVID-19, it became clear that a target population can be ‘everyone’. It continues to feel that the market is collaborative, with issuers, investors and market makers focused on what is practical.
While much of the issuance volume can be attributed to public-sector entities, we have also seen various private-sector companies wishing to contribute to the growth of social bonds. This notably includes companies with socially aligned mandates, such as healthcare and education.
As the sustainable debt market evolves, how should market participants maintain rigour and avoid any possible accusation of greenwashing?
BARRON I do not believe any issuer would deliberately seek to issue debt that may be considered inappropriate. The market continues to use best-practice market guidelines, such as those provided by ICMA. These are usually also jurisdiction-agnostic.
As the sector develops, grows and innovates, a wider range of market stakeholders will become more active participants including, for example, regulators and policymakers. These entities will also be able to provide support.
We all have a responsibility and opportunity to come together and make clear decisions, so everyone is equipped with the best possible information and maximum disclosure to support successful outcomes.
What advice would you give to an Australian issuer that has yet to be convinced that it is worth the deployment of resources necessary to execute a deal?
HARTMANN There is a lot of focus on ESG and interest in how to approach bringing it to market. What we are saying is that the debt space is one of the most visible ways to make this connection. Issuers cannot change their business plans overnight, but they can spend time working on a sustainability framework that they announce to the market as the way they want to do business – and then back it up with issuance.
Some issuers are working on these frameworks even in the absence of an immediate need to go to funding markets. They want to demonstrate that they are taking steps toward issuance and communicating these to investors. We suggest all issuers consider this approach.
Disclosures regarding the content of this article are provided here.
KANGANEWS SUSTAINABLE FINANCE H2 2021
KangaNews is proud to share cutting-edge information from the global and Australasian sustainable debt market.
WOMEN IN CAPITAL MARKETS Yearbook 2020
KangaNews's first-ever yearbook amplifying female voices in the Australian capital market.