While sovereigns have made good progress in advancing their environmental, social and governance bond frameworks, they need to go even further to better define their climate transition plans. That was the message from investors speaking at the Association of Financial Markets in Europe’s annual European government bond conference in Brussels on November 16.
Felipe Gordillo, senior ESG analyst at Mirova Asset Management, said that when Poland introduced the first-ever sovereign green bond, there was no mention of net zero targets and decarbonization plans for a country involved in the fossil fuel financing. However, this is less common today, with many emerging market sovereign issuers detailing their decarbonization plans.
But sovereigns can go further, urged Gordillo, detailing the green deficits of their public debt trajectories. “It’s a great signal to show ambition,” he said.
“We have a philosophy for our fund that we tend not to invest if we don’t see great ambition at the issuer level,” said Isobel Edwards, senior green, social and impact bond analyst at NN. Investment Partners. “So it’s not just that anyone can issue a green bond and if the use of the product is green, we go.”
“We also want to see that the use of the product fits into a larger transition plan that the transmitter has also put in place so that we know it’s part of something and not just an opportunistic show” , Edwards said. “So if we see that there’s a lot of green activity from the issuer, we’ll question that and ask how does that really fit in if you’re still funding all those fossil fuels .”
Edwards said they are thoroughly analyzing transition plans. “When we look at sovereign issuer transition plans, we ask how much of that plan is based on technology that is currently available at the scale you predict in that plan,” she said. “We try to make sure that we don’t give false hope…but I would say if we see that there’s a lack of will to go through with the plans they come up with, we downgrade.”
By downgrading, Edwards means removing issuers from their funds, which NN Investment Partners did to Poland a few years ago due to the country sticking to coal funding.
Gordillo said European sovereigns in advanced economies need to be more ambitious about how their profits are used. “The big difference between green bonds from advanced economies and green bonds from emerging markets is that in advanced economies, European, the majority of the revenue goes to green activities and of those green activities, around 60% goes to the railways “, did he declare. said. “Green bonds in Europe are about the railways – that’s all – which is quite difficult because it’s not the railways where you have the bulk of the carbon emissions. So, as an impact investor, what we would like to see is governments taking long-term risks and developing technologies that are not available today and decarbonizing the most difficult sectors.
One of the ways sovereigns are looking to show more ambition in their ESG transition plans is to issue sustainability-linked bonds – ESG bonds linked to issuers meeting key performance indicators – Chile and Uruguay having sold the first sovereign SLBs this year.
However, Gordillo said he was unsure of the value of SLBs as a way for sovereigns to show their commitment to sustainability goals. “We were quite skeptical of the SLB concept,” he said.
Using the Chilean SLB as an example, Gordillo said, “They printed a $2 billion transaction, so the incentive or penalty is only $5 million for an issuer that runs an annual budget of $50 million. at $60 billion so $5 million is not an incentive to create some kind of change Pricing models have to be calculated in a different way so when issuers see that penalty they have an incentive to ensure sustainability.
Sophie Wellen, a green bond specialist at the Dutch Treasury Agency, disagrees that higher penalties are needed for SLBs to be effective.
“As governments you want to be ambitious on the green part, but you also have your responsibility to taxpayers. And for the SLB penalty to be effective to any degree in influencing political decision-making, it has to be very, very high and I don’t think we can put that risk on our taxpayers,” Wellen said.
She added that SLBs are “certainly something we will consider… We are very much looking forward to hearing feedback from our key investors on what they think and whether it would be a suitable investment for a country like the Netherlands” , she said. “I can’t say if he’ll be adopted, but it’s definitely something we’re considering.” It is a transition obligation and we consider ourselves to be in transition.
Burhan Khadbai is Head of Content at OMFIF’s Sovereign Debt Institute.