Commentary

Greening the World’s Brown Businesses

David Cudmore, Portfolio Manager at Mondrian Investment Partners, says greater transparency will be crucial to attracting investors to transition opportunities.

Governments around the world are increasingly revealing their domestic targets to meet the Paris Agreement objective of limiting climate change to well below 2C and ideally below 1.5C.  However, most of these pledges currently lack a strategy or roadmap of how to achieve these targets. Once these strategies develop it will become clear the vast amount of financing needed to support the transition but also the significant role that ‘brown’ sectors will need to play.

Brown sectors are imperative to the economy of today and cannot simply be shut down. There needs to be realistic transition in these sectors without fully compromising current vested interests. The transition to a greener and more sustainable future will be particularly challenging for the regions that are dependent on industries such as mining, oil and gas extraction or chemical and material production. However, if there is to be a global solution to limiting and adapting to climate change, it will arguably be these regions and industries that have the most significant role.

Facilitating transition

Whilst green bonds will not be the only source of finance across the full transition of these industries, there is an opportunity for green finance now as well as in the future to facilitate the transition to greener, more sustainable ways of doing business and in doing so, open these industries to a growing demand for sustainable investment.

The opportunities for green investment in these industries could be vast.  LG Chem, a chemical manufacturer, is the only issuer in the Bloomberg Barclays MSCI Green Bond Index from the obvious brown sectors. The company’s green projects include the development of batteries for electric vehicles and have outstanding green bonds of around US$1.6 billion. This compares to ‘brown’ bonds outstanding in the Bloomberg Barclays Global Aggregate Index of over US$1.1 trillion. Whilst there is not a clear link between refinancing current bonds into green bonds, the changes that these businesses will see in years to come will inherently ensure more green investment.

Clarity and comfort

However, investors will need clarity and comfort to support the green transition of these sectors. Brown industries will be amongst the most vulnerable to greenwashing, where there is a heightened risk that proceeds of green bonds will not yield a true environmental benefit. Regulation will play a key role here. The most recent, and perhaps most formalised, development in this space is the European Green Bond Standard where issuers will need to align use of proceeds with the EU Taxonomy and the whole framework will need to be reviewed independently by a registered external reviewer.

Crucially, it is inclusive of transition activities and provides an avenue of green investment opportunities for transition sectors. Alongside this, investors should look forward to more comprehensive impact reporting – what actual environmental benefits such as avoided emissions, electric charge points added or renewable energy capacity built are the green bond’s projects yielding. It is these ‘environmental results’ that really matter when we think about targets such as limiting global warming. Investors need to access this information for brown sectors more than any other to ensure the environmental benefits of the green bond are incorporated as part of a greener strategic shift.

Whilst adopting standards and detailing environmental impact remain voluntary actions for green bond issuers, more issuers are aligning with them. As this develops, investors will get an ever clearer picture of what projects they are supporting and the tangible environmental benefit that their investment has created.

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