investment viewpoints

spotlight on COP24.

spotlight on COP24.
Stephen Fitzgerald - Managing Partner, AIM

Stephen Fitzgerald

Managing Partner, AIM

The Conference of Parties of the UN Framework Convention on Climate Change (COP24) is the most important forum dedicated to global climate policy in the world. Representatives of 196 countries and the EU are currently gathered in Poland to work on a collective action plan.

Affirmative Investment Management (AIM) managing partner Stephen Fitzgerald shares his views on the issues that are being raised as part of a wider discussion on climate change and sustainability.


What are some of the key actions you expect to come out of COP24?

We expect to see promises from various governments, banks, asset managers, and other entities to be implemented. There will be an increased focus on aligning balance sheets to combat the effects of climate change, and in the measurement of this commitment through impact reporting. It is becoming more widely accepted that there will be a significant financial impact that will be felt across all sectors due to the effects of climate change. The key question that still remains is how long it will take the larger entities to actively change their strategies.


The UN environment agency says there is ‘huge, untapped potential in greener construction’. How do you currently view this space and are there any other areas of untapped potential?

Energy efficient buildings are seen as critical in decarbonisation scenarios. However, as green infrastructure, such as railways, grow more rapidly, the sustainability of construction materials, especially cement and steel, are also getting more attention. These materials are quite carbon-intensive to produce and the energy efficiency standards across manufacturers can vary. We would like to see the construction sector pay more attention to this in their sourcing of materials. It also needs to optimise its materials waste management and recycling to keep up its green momentum.


How do expect the green bond market to develop given the context of the regulatory agenda?

Green bonds have been very well received by investors. Strong issuance across the range of issue types and sectors has been matched by strong demand from investors. With tight pricing, oversubscription and upsizing of deals being common in the primary market, and with the secondary market strong on the bid side, there is clearly scope for continued growth. The repeat issuance from a multitude of issuers and increased reliance on the secondary market is further evidence of the increasing demand for green bonds.

Recently there has been a lot of media attention around climate change, including the recent IPCC report released in October. The Paris Agreement seeks US$100bn per annum for both adaptation and mitigation, and by 2030 the cost of adaptation alone is expected to total US$300bn per year. The green bond market has been used as a tool to address this gap, by ensuring positive environmental and social change, while also raising capital. 

Looking to the future, the OECD estimated in a recent report that annual green bond issuance could reach US$620–720bn by 2035, and that the green bond market alone is likely to be worth between US$4.7–5.6tn by 2035, becoming a mainstream asset class.

Alongside increase in size, there has been increase in diversification of issuance. Originally, the majority of impact bond issuance was by governments and supranationals, but now in 2018 corporate issuance constitutes half of the overall market. We are also seeing an increased range of issuance across the yield and credit curves, and expect this trend to continue in the future.


As the market grows, what are the benefits to an investor?

We believe that managing a portfolio of green bonds will become easier as the market grows. As diversification increases there will be greater possibility for selection and customisation of different portfolios. Recently, primary green bond issues have been over-subscribed, but as supply begins to match demand, the impact fixed income market will continue to become more mainstream and efficient.


What are the pitfalls and why is robust verification so important?

The green bond market is largely self-labelled. An issuer often refers to the Green Bond Principles (GBP) -  guidelines drawn up by the International Capital Markets Association (ICMA) - in order to self-certify.

One of the main challenges that the green bond market faces is the problem of ‘greenwashing’ (exaggerating the sustainability credentials of an investment). As issuers can self-certify, there is an inherent risk that, without proper due diligence, investors will take the green label at face value, without considering the real measurable impact on the environment or other negative impacts.

For example, the ENGIE1 (self-labelled) green bond funded the Jirau Dam project, one of two large hydropower plants on the Madeira River. Scientists, NGOs and the Brazilian government have highlighted negative environmental and social impacts associated with the two dams, including endangering native fish species, whose life cycles depend on migration, and the displacement of indigenous communities. Local tribespeople, whose territories were flooded, claim they were not consulted prior to the project.

An investor without their own verification process may have deemed the ENGIE bond acceptable for a portfolio that purchases green bonds, since it was labelled as such. However, the investment would be difficult to justify with an understanding of the wider context and a knowledge of the inherent negative impacts of the bond funded project. This outlines the importance of robust verification in this space.


What role do climate bonds play in a portfolio?

Climate bonds, where the use of proceeds goes towards projects that aid mitigation and adaption to climate change, in our opinion, can replace the role of similar vanilla bonds in any portfolio. From a financial perspective, they are conventional bonds, and trade at similar yields, but they have the additional positive impact of helping to combat climate change.


Do you think companies issuing climate bonds are likely to be those whose business models are better positioned to transition to a low carbon economy in an orderly fashion?

In short, yes. Companies who are more actively positioning themselves to help prepare for the effects of climate change by issuing climate bonds are more likely to have a more fluid transition to a low carbon economy.


Do you have any thoughts regarding Bolsonaro’s election in Brazil and the implications for deforestation of the Amazon?

It is a situation that we are monitoring with concern. There could well be widespread implications for the health and size of the Amazon due to new policies. Bolsonaro, despite his initial promise to merge the environment and agricultural ministries will appoint the pro-business lawyer Ricardo de Aquino Salles as environment minister, who may be likely to promote agriculture at the expense of environmental protection.


1 Any reference to a specific company or security does not constitute a recommendation to buy, sell, hold or directly invest in the company or securities.

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