Half-trillion-dollar green bond market, led by China, looks for a regulator

By Benjamin Hulac | 03/25/2015 08:53 AM EDT

The global pool of issued green bonds, which are designed to fund environmentally friendly projects, tripled from $12 billion in 2013 to a little more than $36 billion last year.

The global pool of issued green bonds, which are designed to fund environmentally friendly projects, tripled from $12 billion in 2013 to a little more than $36 billion last year.

The market for these bonds has ballooned since 2008, when a Swedish bank issued the first green bond. Then, after the first green bonds were released, the European Investment Bank and the World Bank, among other development banks and later corporations, municipalities and local agencies, quickly followed suit.

Today, those entities have created a $503 billion universe of outstanding debt securities, and development banks have largely led the charge to build this market.


For future development, however, the spotlight has turned to China, which many believe presents a fertile field for these financial tools, the Climate Bonds Initiative (CBI), a London-based nonprofit organization that tracks green bond developments, said in a report yesterday.

"The substantial commitments China has made to reform its bond markets are exciting from a financial and economic perspective, but also from an environmental one, as they increase the opportunity to utilize the bond market to finance the transition to a low-carbon [and] green economy in China," Sean Kidney, the chief executive of CBI, said at a forum yesterday in Beijing, according to a copy of his remarks.

Completed by CBI, the International Institute for Sustainable Development and the Chongyang Institute for Financial Studies at Renmin University of China, the report suggests establishing a third-party regulator to supervise green bond issuers and buyers, and to verify the proceeds actually go to environmental projects.

The report suggests creating a new financial watchdog — a "Green Bond Market Development Committee" — to review current and future standards.

"China is grappling with environmental challenges that are different to those of the mature economies in Europe and the U.S.," Beate Sonerud, an analyst at CBI, said in a statement.

"While climate change is high on the agenda in China too, the green challenge here is much broader," Sonerud said, citing extreme air pollution, contaminated soil and little clean water as challenges. "Green bonds will be part of the financing solution to those challenges."

Of all outstanding green bonds, the Chinese market accounts for $164 billion, the largest current share of a single nation, most of which is earmarked for rail investments, according to CBI analysis. By country of origin, the United Kingdom ($58.5 billion), the United States ($51 billion), France ($49 billion), Canada ($25 billion) and South Korea ($25 billion) make up the other top green bond issuance markets.

Objective: low-carbon-emitting cities

A research wing of the State Council, China’s central political body, recently forecast that successful "green development" in China will require $320 billion in annual investment.

In 2012, China saw only $180 billion worth of incoming green investment, according to CBI. Opening up the nation’s debt markets to international buyers, sellers and traders could help make up that shortfall.

Bullet train
Fast-moving green asset: A high-speed train awaits passengers at the Beijing West Railway Station. | Photo by Fabio Achilli, courtesy of

"A significant share of this investment will be required for green urbanization," the CBI report reads, referring to the $320 billion target. "China’s financial markets can and should play a key role in the transition to a green, low-carbon and climate resilient urban economy."

Green bonds would be "highly suitable" for green infrastructure projects like environmentally friendly buildings, public transport networks, pollution reduction plans and water systems, the authors write.

Ma Jun, the chief economist of the People’s Bank of China, the country’s central bank, has publicly endorsed expanding Chinese emissions-trading markets, increasing disclosure of the financial risks climate change poses and boosting green bond markets. A week ago, at a business conference, Ma proposed establishing new so-called green banks and creating new channels for private environmentally focused firms to make initial public offerings. And last summer, he highlighted perhaps the biggest pitfall of green bond markets — clear packaging separating "labeled" green bonds from other debt securities.

"To distinguish green bonds from other bonds," he said in July, "they should have lower financing costs and greater support from the government, such as tax exemptions."

To the chief of the China Meteorological Administration, Zheng Guoguang, rising temperatures driven by climate change are piling economic costs on top of environmental problems.

"In this century alone, meteorological disasters already caused direct economic losses equivalent to 1 percent of China’s economic output," Zheng said in an opinion article published Monday in People’s Daily, a state-owned newspaper. "Climate change is not only an environmental issue but a development issue" (ClimateWire, March 23).

Environmental assessments for loans

China’s bond market has grown steadily in the last decade, from $700 billion to about $5 trillion in outstanding debt last year, according to the Asian Development Bank.

The market landscape is divided into two portions for trading, an inter-bank bond market — accounting for 93 percent of the market, according to CBI — and an exchange market, which is open to a more diverse set of traders.

Yet the Chinese bond market, the third largest bond market by volume, behind the United States and Japan, is largely blocked to foreign investors, though foreign central banks can access it through Hong Kong and Macao. Approved overseas, deep-pocketed investors can also tap in through a separate state-sponsored program, investing up to a quota set by Chinese regulators.

Chinese government officials have signaled they intend to raise these quotas and remove restrictions impeding foreign capital.

The China Securities Regulatory Commission and the State Council have proposed connecting and allowing trading on both markets.

In a policy unveiled last March, China’s financial regulators required banks to complete environmental assessments when lending and established guidelines that integrate environmental ratings into credit ratings.

Corporate green bonds issued worldwide could reach $30 billion this year, almost 50 percent more than the $19 billion put out in 2014, Standard & Poor’s forecast in a report published Monday. The report notes China is a linchpin to this market’s growth.

"The real game changer," the report reads, "could be when China enters the green bond market in full force."

Last year, 44 percent of these green fixed-income assets came from supranational banks, 38 percent from private firms — such as Toyota, Unilever and Bangchack Petroleum, a Thai oil firm — and 13 percent from municipalities.

"The Chinese green bond market could grow substantially over the next 12 months as Beijing steps up its antipollution drive and investment in renewable energy," the S&P report reads. "The government has a strong incentive to develop a bond market and encourage corporations to raise funds by bond issuance, which would help diversify credit risk now concentrated in the banking system."

Corporate debt makes up about 25 percent of the securities in China’s bond market, which leaves those government borrowers — the organizations issuing the bulk of bonds — with long-term debt obligations to meet, a risk for national and state-backed lenders.

"This is a new asset class and still relatively small compared to the overall corporate bond market which is around $3 trillion in issuance per year," Michael Wilkins, the lead S&P report author, said in an emailed response. "However, investors in green bonds are now mainstream investors rather than just specialist responsible investment houses, which was the case a couple of years ago."

Green bond investors will likely hold onto their assets until they mature, the rating agency’s report found, and some may even roll these assets over. "You’ve got a longer profile," CBI’s Kidney said of these "buy-and-hold investors."

The goals of programs like the United Nations’ Principles for Responsible Investment network — a contingent of voluntary investors with more than $45 trillion in assets under management who have melded environmental concerns with their investment decisions — make green bonds enticing financial opportunities, Wilkins said.

"The market is growing very rapidly driven by demand for socially responsible investments to meet rising retail investor appetite for this kind of asset class," Wilkins said of green bonds. "This capital needs to find a home."

Policy papers go green; fossil fuel investments get liquidated

In a call from Beijing, Kidney said the Chinese government is pushing for market openness and aggressively moving forward with green infrastructure plans, such as high-speed rail and solar power projects, instead of waiting for international action.

"The talk about change is amazing," he said. "The word green is sprinkled" in the majority of Chinese government policy papers, he added.

Chinese citizens have raised their environmental concerns and pressed the government about the knock-on effects of climate change, according to Kidney, and there isn’t any debate about the existence or gravity of global warming.

"There is enormous pent-up demand for good quality investments," Kidney said. "This is a market that has already been embracing green," he added. "This is an investment-grade universe."

According to 350.org, an environmental advocacy organization, investors controlling roughly $50 billion have sold their stakes in oil, coal and natural gas firms during the recent fossil fuel divestment push. Kidney hopes green bonds reach the $100 billion threshold this year.

The size of the global debt markets compared with stock markets, as well as their long-term stability versus equity investments and the speed at which green bonds have blossomed, are encouraging signs for Kidney and his peers.

Bond markets worldwide are worth $80 trillion, significantly more than global equity markets, which were valued at $64 trillion in 2013, according to the World Federation of Exchanges.