Trade body ICMA pushes back on ‘hard regulation’ on greenwash in transition finance

The international association notes that transition finance is often criticised for opening the door to greenwash, but recommends a nuanced approach where firms that need help in shifting away from carbon-intensive activities comply with disclosure requirements instead.

Aerial view of HK central business district
Aerial view of the central business district of Hong Kong. International Capital Market Association (ICMA) calls for a nuanced approach in regulating transition finance instruments, which are increasingly being used to fund Asia's net-zero transition. Image: Mstyslav Chernov, CC BY-SA 3.0.

Global industry bodies are coming out to warn against “excessively broad” greenwashing definitions in response to a recent consultation document outlining this topic by European Union financial regulators

Joining calls to take a more nuanced approach is the International Capital Market Association (ICMA), a trade body for bond markets, which argues that taking a hard regulatory stance against transition finance instruments, commonly used by companies committed to shifting towards lower emissions, might backfire, especially in the context of Asia’s transition strategy. 

Speaking at the Economist Impact’s Sustainability Week Asia event this week, ICMA’s Asia Pacific senior director Ricco Zhang said that despite differing standards across jurisdictions opening transition finance up to greenwash concerns, the association takes the view that “hard regulation” is “not that necessary”. Instead, pushing for more disclosures from issuers of bonds, which include firms, financial institutions and governments, is the right way to address these concerns.

Bond issuers should consistently report how proceeds are allocated to projects and their contribution to an entity’s net-zero goals, suggested Zhang. ICMA, which administers the Green Bond Principles, is an advocate for voluntary codes in sustainable finance. Zhang also emphasised the need to help Asian issuers build capacity, so that they can be familiar with the series of financing tools and instruments available to them. 

Last month, ICMA was one of many industry bodies that pushed back against greenwashing definitions in a consultation initiated by the European Supervisory Authorities (ESA). The ESA had launched a ‘Call for Evidence’ to collect examples of potential greenwashing practices related to financial products and services, but ICMA charged that the broad definitions presented in the document were “unhelpful” and allowed “limited” scope to distinguish between intentional and unintentional behaviour from firms.

Transition finance – which broadly refers to labelled financial instruments used to fund projects for companies in high-emitting sectors to transition towards lower emissions – is becoming an important mechanism for unlocking the capital needed to urgently meet Asia’s net-zero commitments.

But unlike green finance, what constitutes transition finance projects remains hotly debated. For instance, while green bonds strictly exclude fossil fuels, transition bonds can still fund fossil fuel-related projects, which could create “a risk wherein investors will have less confidence to finance your bond,” Zhang said.

“We don’t want to discourage any potential corporates to look at [transition finance] because… time is against us. So any effort to encourage more companies to look at this issue is very good.”

Mobilising capital panel

A panel on mobilising capital for net zero at Economist Impact’s Sustainability Week Asia 2023. From left: Kristina Anguelova, Head, Asia Sustainable Finance, WWF; Scott Roberts, Southeast Asia Green Finance Hub, ADB; Head, Ricco Zhang, Senior Director, Asia Pacific, ICMA. Image: Economist Impact.

Of the products being employed in Asia’s transition strategy, sustainability-linked bonds (SLBs) have emerged as the most popular, according to Zhang. SLBs now account for “at least 10 per cent of the whole sustainable bond market”, despite ICMA’s Sustainability-Linked Bond Principles being introduced just two years ago, he said. 

What is a sustainability-linked bond?

A sustainability-linked bond (SLB) is a borrowing instrument to finance projects that are not particularly green. It requires the issuer (i.e. the company or public sector entity issuing the bond) to set explicit sustainability performance targets within a given time frame, wherein failure to meet these targets will result in a higher coupon payment for investors.

The first SLB aligned with ICMA’s Sustainability-Linked Bond Principles was issued in September 2020.

There are no restrictions on the use of the funds raised from SLBs, apart from the higher interest rate the issuer must pay if sustainability targets are unmet. Based on a study by Climate Bonds Initiative, USD-denominated SLBs show evidence of the “greenium” – or a sustainability premium where investors are willing to pay a higher price or accept lower yields for sustainable impact – compared to “vanilla” corporate bonds. While this finding is a positive indicator of investors’ appetite for such products, it also suggests that without setting ambitious sustainability targets aligned with sector-specific transition pathways or strong penalties for failing to meet them, SLBs could allow high-emitting companies to claim green credentials while continuing business as usual. 

In Asia, where SLBs are widely embraced due to the large presence of high-emitting sectors, many countries have adopted ICMA’s guiding principles to create their own domestic standards. Asean Capital Markets Forum, made up of market regulators from 10 countries in Southeast Asia, released the Asean Sustainability-Linked Bond Standards last year to woe more private sector investments into the region. 

Public sector institutions in the region have also reached out to partners like Asian Development Bank to apply these standards and bring these instruments to market with the right labels. Scott Roberts, head of ADB’s Southeast Asia Green Finance Hub, said that the multilateral bank – itself an active player in the green bond market with more than US$130 billion in total of outstanding loans – has advised these public sector entities on six green bond issuances in the past few years.

Consistency in scope of transition finance is key

Kristina Anguelova, head of Asia sustainable finance at World Wide Fund for Nature (WWF) adds that challenges in sustainable finance can be addressed by “regulatory taxonomy alignment” within countries, where work on labelling is a “good first step” in this nascent stage.

She cites the Singapore context as one such effort showing the positive correlation between aligning national regulations and the progress financial institutions have made towards net zero. After Singapore’s “Green Plan 2030” targets were unveiled and the national financial regulator Monetary Authority of Singapore (MAS) set specific environmental risk management guidelines, all three local banks have since announced net-zero commitments. Anguelova points out that one of them, DBS, has also defined a framework on transition finance.

In comparison, Thailand’s plan to reach its net-zero emissions target by 2065 is outlined only in its Paris Agreement-mandated Nationally Determined Contribution. Just one Thai bank has set net-zero commitments, and even then, as Anguelova observes, they only encompass Scope 1 and 2 emissions.

Zhang agrees that it is fine for countries to develop their own taxonomies and benchmarks that suit their own contexts, but the scope of transition finance activities should be coordinated across countries to “give a consistent message to the market”.

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