Why green labels and scores are only starters for sustainable investment decision making
Bertrand Gacon of Swiss bank Lombard Odier explains the perils of so-called ‘green-washing’ of investment portfolios
Fund managers are being warned to scrutinise the green, social responsibility and corporate governance credentials of target companies before making asset allocation decisions, according to one of the world’s top sustainable investment experts.
Bertrand Gacon, head of impact investing and socially responsible investment at Lombard Odier, the Swiss private bank, said some fund managers are now running the risk of “green-washing” their portfolios, a term used to describe investments that achieve less sustainable goals than expected, and were made at the expense of more worthwhile investments.
The Swiss bank and asset manager helps wealthy clients develop their own “impact investment charters”, identify investment products and report on their portfolios’ financial performance, as well as environmental and social impact.
One of its most popular products is its “green” bond, which has witnessed explosive growth in recent years. But the fact that different markets have different regulations on what projects are qualified means the investment process can often be complicated.
One example is “clean” coal projects, which use technology to cut emissions. They are qualified for green bond issuance in China, but not in most Western nations.
“If we the financial community are not vigorous enough in carrying out the right impact verifications, and making sure ... that [our investors’] money is used to finance green infrastructure, then ... you will create some mistrust, which is something you really need to work hard to avoid at this early stage development of the green bond market,” he said in an interview with South China Morning Post.
Gacon predicts the decade-old global market for green bonds – issued by companies to finance projects with environmental benefits – could grow to US$150 billion this year, after doubling to US$90 billion last year.
Suzanne Buchta, global head of green bonds at Bank of America Merrill Lynch, has a more cautious estimate.
She projected this year’s global volume to be flat to slightly lower than last year, noting the year-to-date volume amounted to only US$41.5 billion, even though this was 41 per cent higher year-on-year.
To be able to officially label a bond as “green” requires it to go a qualification process, carried out by an independent reviewer.
Some US$694 billion worth of unlabelled, or so-called “climate-aligned bonds”, have been issued, according to a recent report, commissioned in July last year by HSBC, but prepared by Climate Bonds Initiative, the London-based non-profit body promoting green bonds.
The combined value of both types of bonds, however, remains tiny compared with the US$5 trillion spending required to upgrade existing infrastructure until 2020, it said.
Besides, US$700 billion of additional spending on new infrastructure will be needed for decades to come, according to a report by the World Economic Forum, if global average temperature rise is to be contained at two degrees centigrade from pre-industrial levels , with massive investment needed in the water, agriculture, telecoms, power, transport, construction, industrial and forestry sectors.
Gacon said even if a bond is labelled green, it does not automatically fall into Lombard Odier’s “to-invest” list. Some 15 per cent of green bonds are excluded after consideration of the background of the issuer, he added.
For example, although the Polish government won the race earlier this year to become the world’s first national government to issue a green bond, its €750 million (US$856 million) offering was snubbed by Lombard Odier, which wanted the eastern European country to demonstrate a greater commitment to switching to clean energy.
“In the overall context, we looked at bond issuances that have been run by the Polish government, and a very significant part of the proceeds were used to finance [the construction of] new coal-fired power plants,” he said.
“It was not good enough for us ... [it] was issuing the green bond to finance renewable energy programmes, but at the same time it was issuing more bonds to finance fossil fuel activities.”
Poland has Europe’s second largest coal-fired power generating capacity after Germany and the largest planned new plants pipeline, according to Global Coal Plant Tracker. It produces about three quarters of its power from coal.
In another example to demonstrate what a difference “context” makes to Lombard Odier, Gacon said it does not exclude all fossil fuel firms from its investment universe, such as French oil and gas giant Total which he said demonstrated “a clear strategy” to dilute the importance of its fossil business by moving into the clean energy businesses.
Total said on its web site it aims for renewable energy, energy storage and energy efficiency projects to account for a fifth of its business “portfolio” within two decades.
In 2011, it bought 60 per cent of SunPower for US$1.38 billion, one of the largest solar panel makers in the United States. It bought French battery maker for US$1.1 billion Sanft Groupe last year.
Elsewhere in the world, although both the quantity and quality of data provided by external suppliers on stock and bond issuers’ environment, social and governance (ESG) performance have been improving, Gacon said it is “not yet where we need them to be”.
“Their ESG metrics are too much focused on practices and not enough on impact,” he said.
“The information gathering process is still very much a box-ticking exercise, and most data comes from the issuers themselves, which raises questions on conflict of interest.”
There are also biases on the geographical, size and age of the issuers being rated, he said, which requires in-house adjusting of the scores by the fund managers.
For example, he noted European firms tend to do better on some metrics simply because they are subjected to more social and environmental reporting requirements than counterparts elsewhere.
Larger and older firms also tend to do better because they have more resources and time to organise internal processes to do better reporting, he added.
Suzanne Buchta said it is not surprising that investors have their own judgement on the usefulness of investment assessment tools.
“Some value ESG scores, others like to see green bonds even from low ESG scoring issuers because they view it as a positive trend from that issuer, and as a positive contribution to a need for scale,” she told the Post.
Gacon said a climate bond fund launched by Lombard Odier in March this year has raised US$240 million so far, making it one of its most successful product launches in the past decade in terms of the time it took to raise the sum.