By: Spencer Lake, HSBC Words: March 2016

Transcription

1 The Economist Sustainability Summit Topic: Financing Sustainability By: Spencer Lake, HSBC Words: March 2016 Ladies and Gentlemen. I am very pleased to be here today, and it s an honour to share the platform with so many experts. And obviously to have the opportunity to share with you some of my own thoughts on such an important topic at this critical moment. While the two words themselves Financing and Sustainability, are straight forward, actually the act of financing sustainability is complex. To help the discussion, I will focus on four areas. The first is Sustainability itself and to share some observations The Second is Financing and making the connections. Who needs it What is it for (and make the important link with global demands i.e. infrastructure) Who are the key parties and what role do they play, Thirdly, I will focus on a few recommendations required from key parties with a particular focus on attaining higher capital markets participation. 1

2 And Finally - I will share two examples in terms of wider impact of this topic such as China and Smart cities. Part I on Sustainability CoP 21 was successful in raising awareness and in getting commitments from governments globally to address the issue. But for this commitment to be turned into reality we need genuine actions CoP21 has made one thing clear that this transition story' towards a low carbon economy requires significant financing and we will have to provide governments, businesses, and financial institutions with the requisite tools and support they need to embed sustainability into the mainstream. Sustainability means different things to different people. For HSBC, it s simply about balance. To balance the ability for growth against the current and future challenges arising from the economic, social, regulatory and importantly, the environmental backdrop. Let me give some examples. Example 1 - Corporates (in green and non-green sectors) will have to adapt sustainability to this transition to remain competitive and this needs to be driven at Board level. 2

3 Corporates will need to: Assess their own exposure to disruptive factors both in their core business operations and in their supply chains. And they will need to explore or acquire the right technologies to increase overall efficiency and profitability. Example 2 - Analysts (Moody s, boutiques) Translation of ESG into value assessment Analysts have already started incorporating sustainability ie Environmental, Social and Governance (ESG) factors into their traditional risk assessment methodologies to provide a holistic & sensitive analysis of which companies will be most resilient to the transition for the future. Moody s recent move on ESG risks in credit analysis supports one of our long held views - that pricing environmental, social and governance risks is imperative when investing. For listed companies, it s important to recognise that this will become mainstream. Currently issues regarding ESG incorporation A lack of good quality, transparent data forms a blockage for continued progress, and There are still significant gaps in how ESG is communicated within individual companies and with investment firms. 3

4 But we should not underestimate the material financial impact that ESG factors will have on companies competitive position and future growth potential. Example 3 - Buy side Investors As you have already heard before the break on holding investors to account, investors are clearly wakened up to carbon risks and actively build suitable portfolio strategies. In time they will only identify with the right companies that are fit for the future. Already 1,400 firms managing in excess of $59 trillion have joined the UN s Principles for Responsible Investment to promote responsible investment. More and more are paying attention to ESG analysis with the thesis that strong ESG leads to reduced default risk and therefore lower costs of borrowing. Evidence has shown that between 2007 and 2015 investmentgrade bonds with higher ESG scores outperformed those with low scores. Going forward, we anticipate that if credit spreads widen, identifying ESG related exposures and potential governance 4

5 failures will play a bigger role as bond investors re-price underlying risks. There are of course other parties that are involved which I will talk more in my next sections. Part II - Making the Connections We need to better link the debate on infrastructure and Green together I say this as much of the identified sustainable financing needs have clear linkages to global infrastructure needs. Going forward, arguably all infrastructure financing and investment should be 'green & sustainable'. The infra debate has been ongoing for years, since the crisis years ago. It has not yet been solved. For EM countries, this is particularly relevant as those countries have great demands for infrastructure investment but still rely heavily on carbon-intensive energy for economic growth. Asia is very much at the centre of this demand for the strategic shift within the sustainable infrastructure space. 5

6 Financing gaps remain big Sustainable Energy requirements: - c. $53 trillion in cumulative investment is needed by 2035 to comply with the 2 degree emissions path (International Energy Agency, 2014) At the same time, global infrastructure requirements are estimated at c.$89 trillion by 2030 and $4.1 trillion in incremental investment for the low-carbon transition (World Bank 2015) In addition, developed countries need to mobilize $100 billion a year from public and private sources by 2020 for climate mitigation and adaptation for developing countries. There are big numbers and the overlap probably higher than we think. Within the public sector, there is clear focus. We can see for example several new players being set up to try to tackle both the infrastructure and sustainability financing needs: Green Climate Fund - ($ 10bn) AIIB - ($ 100bn) the New Development Bank - ($ 100bn) Japanese Bank for International Cooperation - ($ 110bn) China s Silk Road Fund ($ 40bn) We were also pleased to see the Green Infrastructure Investment Coalition launched at COP21 to look both financing needs together and to engage with key stakeholders to work together. 6

7 However, now we need to knit this public sector firepower with the private sector capital to deal the mismatched numbers. Before some suggestions, let s refresh ourselves on the key stakeholders involved: Governments Multilateral Development Banks Commercial and Investment Banks Investors (debt and equity) Owner / Operators Regulators Each has a role to play and there is a high level of codependency. Part III - What are some key recommendations? In order to leverage the capital markets more efficiently, we need a series of actions which when aggregated will create a scalable solution. Recommendations for Governments First of all, a core tenant of any set of recommendations is to create then treat Infra and Green as an Asset Class. In a world where simple is better, and where the largest pools of money (and we will focus on fixed income) are buying 7

8 industrialized, homogenized products through increasingly electronic platforms, we need to try and do the same with Sustainable financing. Good work has been done by various more market driven bodies including the WEF, the European Financial Services Round Table, ICMA, etc. on this topic, and let s review what we conclude to achieve having green infrastructure into an asset class. 1. Governments our suggestions to maximise market participation and reduce inefficiency: National pipelines Governments need to create more visibility on projects (e.g. the UK NP and the Junker plan) Procurement laws in at least in the EU, need to be revamped to reduce the natural bias against market based financing Concession Agreements need to be prepared that can then accommodate market based vs bank based financing Need a Common Framework for project due diligence and disclosure, or pan-regional passports so that infrastructure investing can become more accessible for long-term institutional investors. Need common disclosure and reporting requirements Common debt terms and documentation Crate an international Administration and arbitration framework Better determine profile and responsibilities of third party advisors: 8

9 We need these measures to work and of course maintain flexibility where necessary. On Sustainability specifically, Governments should aim to: Introduce and implement climate friendly policies across the energy and capital markets to provide a favourable environment for corporates and investors. Consider implementing financial incentives to deliver climate goals; plus probably apply energy targets, such as the scaling up the use of renewables. The need for Carbon pricing - governments can help is by putting a price on carbon and phasing out fossil fuel subsidies, which will also free up and increase public funds. Promote the public and private sectors to work together to mobilise the sustainable finance for where it s most needed such as Green Climate Fund. Green Climate Fund is a UN established, headquartered in South Korea and capitalised by key governments - It aims to tackle infrastructure and sustainable challenges together GCF will offer a new source of liquidity for sustainable projects and adopt a new impact-based assessment process that will 9

10 enable members like HSBC to target the right projects that can generate tangible environmental and social benefits. Recommendations for Multilateral Development Banks In order to maximise efficiency and ensure we channel private and public funding into the infrastructure and sustainable agenda, we expect 3 key things from MDBs: First, we need to have a consistent, ideally standardised, and harmonised approach for credit support and scalable credit enhancement programs that have global appeal. Investors can price credit risk but MDBs should act to cover excess project related credit risks that the private sector is not realistically able to cover. (i.e. credit enhancement) There are good programs out there -i.e. the EIB s Project Bonds Credit Enhancement (PBCE) not enough comparability and need to be scaled up Second, we need MDBs to crowd-in private capital, rather than crowd it out with concessional financing. We need to: Foster the complementarities (rather than create competition) between different sources of capital; Third homogenize and also scale up risk mitigation products 10

11 such as political risk, regulatory risk and in particular develop scalable products around long-dated FX risk. This latter risk is a significant impediment to move capital from western investors to especially emerging markets projects, but also into higher volatility developed markets (e.g. from Canada to Europe) Take India as an EM example. India is significant on both the infra and the green agenda with massive capital needs. Long-dated FX risk has been one of the leading impediments in facilitating capital inflows from infrastructure debt fund managers and equity investors. Recommendations for Financial Intermediaries (Banks) Banks need to play more active roles in green lending and help leverage wider capital market solutions We have a crucial role to play. We need to drive the agenda strategically. We do need to allocate and channel capital gradually away from high-carbon activities into low-carbon alternatives without the knee jerk reactions that impact on the higher fossil real economy. We also need to assess our own exposure. Banks need to leverage more of in house financial tools to facilitate a low-carbon economy. i.e. Currency and interest 11

12 rate swaps, as well as other mechanisms, are used to derisk projects Banks need to send the right signal via the promotion of green lending. We have seen this in China; Banks are encouraged to scale up green lending by CBRC. But for banks in particular, simple green loans cannot be enough, especially against the backdrop of tough regulatory requirements. We will need to see securitisation develop to enable effective risk transfer and free up bank balance sheets. Credit enhancement programmes can assist. Banks need to leverage dynamic capital market solutions relates to green finance not just green bonds, it is also about green M&A, IPOs, green insurance, green funds, securitisation and more. It s around clients transition needs. Capital markets Green bonds have been an exciting development for capital markets. They help finance investment in sustainable infrastructure and technology. But they are tiny relates to needs. Issuers, such as supra-nationals, have actively come to the market but not yet enough corporate issuance (only c. $

13 billion of corporate green bonds were issued in 2015 out of a total market issuance of $42.9 billion) In February 2016, Apple issued a $1.5bn green bond (7years, 2.85%) - the joint-largest US dollar-denominated green bond ever. Other corporate issuers tapped the market so far include Unilever, Hyundai, EDF and Toyota. The market needs to see more corporates, not just for the sake of issuing but to truly embrace this transition journey. Recommendations for Regulators To better understand risk profile requirements and to actively mitigate risks, financial regulation will be a critical driver. There will be a need to impact bank and investor behaviour in the response to financing climate change. Can we review the risk weighting applied to green assets? The relative risk of bank assets may need to be tweaked to take climate into account. E.g., a bank might need to assess its loan book exposure to high-carbon assets and climate-exposed areas in order to assess the ability of customers to repay loans in the event of disruption. 13

14 It is worth noting that the Bank of England has shown real leadership and progress when it comes to assessing the risks of climate change, especially for the insurance sector. In addition, the FSB Climate Task Force is a needed positive. Chaired by Michael Bloomberg, this private sector-led initiative that focuses on consistent disclosures around firms exposure to carbon so that insurers, lenders, investors and other stakeholders can make informed assessments. This work will be key to unlocking how the financial system itself may be exposed to climate risks. Investors are also expected to be regulated to demonstrate how they are helping, not hindering, the low-carbon transition. And do they need to be incentivised like the US muni market? Pensions, insurance are already active mainstream investors are also expected to allocate capital by integrating a risk-reward profile that takes a changing climate into account. Disclosure on portfolios climate exposure and transparency on the use of capital flows will also likely to be made compulsory to enable accurate risk assessment, ala the Montreal Pledge. 14

15 Part 4 Two examples of wider impact of this topic To try and bring my discussion to a close, let me highlight two current test cases - China & Smart cities China accounts for 30% of the world s CO2 emittance. As such, we see the progress they are making as a key determinant of success globally. We are already seeing the wider impact on recipient countries own capital markets development such as China and India. Interestingly, China sees green finance as the catalyst for its capital market reform as it integrates with global financial markets, complementing perfectly with its other initiatives in infrastructure, and crucially as a tool to build solutions to its own environmental challenges. China has established a PBoC-led Green Finance taskforce, focusing on capital market integration through introducing standards and definitions (i.e. China s Green Bond guideline), and developing a robust framework on which fiscal incentives and link into wider reform agenda. China also co-chairs the G20 Green Finance Study Group with the UK. It aims to build a globally consistent green finance market and also encourage smart cities to take actions. 15

16 Is it not appropriate for the EU to take a similar approach in CMU and more actively connect green with infra and the broader CMU agenda to force change? Smart cities delivering global actions A tangible body of work has been carried out around this concept. The C40 initiative, for example, which now in its 11 th year already represents 83 cities globally and account for 25% of the GDP and 2/3 of the population significant momentum has been created. C40 cities are committed to helping implement the Paris agreement by delivering urgent actions. Both China and India have ambitious plans on sustainable smart cities planning. India has 98 smart cities to be developed in the next 3 years. And this is very much at the heart of India Prime Minister Modi. Smart cities can deliver tangible actions as they require well planned, connected tangible and digital infrastructure, public transportation, energy efficiency and to make more use of renewable energy sources. 16

17 Smart Cities are perfect for financing sustainability solutions and can also be used to stimulate capital market solutions (such as municipal bond markets) but also accelerate international capital market integrations and wider value creations. We need to support Cities globally on their climate actions, to solve capacity issues and build resilience that fit for the future. This will, in turn, make financing more effective overall and to contribute more efficiently towards a low carbon economy. These are enormous opportunity that we can look forward to. Conclusion From just two words Financing and sustainability we have been through quite a journey. We live in a connected world and to make one thing work that also often requires significant solutions from key relevant parties. Financing sustainability is no exception. We do need capital market to function effectively with the support and solutions from Governments, MDBs, investors, banks and regulators. 17

18 Both public and private sectors will have to work together to channel the financing required efficiently, build innovative solutions needed to solve the outstanding issues. And HSBC stands ready to work together with these partners to provide these much-needed solutions and help our clients take up the challenge of the low-carbon transition. But most importantly to capture the new opportunities arising from this challenge, in return, to build future success together. Thank you for listening. 18