As our “10 point case” outlines, bonds are a set of financial products ideally suited to both the financing of long-payback period energy projects and to providing institutional investors with security of returns over the longer term.
Climate Bonds are intended to unlock ‘patient capital’: taking savings which require secure returns over long periods of time, such as those held by pension funds, and investing them in low-carbon projects that have high up-front costs but good payback rates over the long term.
Climate Bonds need not differ greatly from existing government and corporate bonds, save for their central purpose: the funds they attract are underpinned by real and verifiable energy efficiency and renewable energy projects that in some certifiable manner contribute to the mitigation of climate change.
At a minimum this has marketing benefits, allowing investors to report to their members on how their secure investments are also making a contribution to addressing climate change. At a maximum, investors could be offered the opportunity to convert their bonds to equity or, in the case of default in riskier economies, to take over the asset.
The Climate Bonds Initiative sees three areas of work required to use Climate Bonds as a mechanism to channel necessary investment funds:
1 Financial Instruments
We propose that Climate Bonds need to be asset-backed, or tied to specific initiatives or portfolios of initiatives, such as energy efficiency or renewable energy generation for a region or country. The key benefit is that it creates assets to offset against the borrowing. This would also allow real marketing differentiation rather than spin, providing institutional investors some surety as they report back to their members on the value-adds of their otherwise sober investment.
As well, we find that certain types of Climate Bond schemes would have particular advantages in certain markets, whether it be securitization in markets where project finance has dried up, or sharia-compliant bonds for Islamic markets.
2 Structuring Initiatives for Investibility
However, the main challenge will be to address the investibility of climate change mitigation opportunities. In particular:
- Initiatives need to be scaled up to reap the significant reduced unit cost benefits of economies of scale.
- Disparate and varied projects need to aggregated and pre-packaged to suit institutional investors.
- Risk profiles need to be reduced by a variety of government interventions, e.g. guaranteed long-term energy prices.
We have proposals in development on energy efficiency or, more correctly, urban mitigation activity, and on large-scale renewable energy generation.
3 Institutional architecture
Long payback periods and unprecedented scale of necessary mitigation and adaptation projects will depend on:
- A range of government enabling measures, from providing legislative support for country-wide energy efficiency schemes to explicit or implicit guarantees for long-term renewable energy prices.
- Enabling institutions, such as multi-lateral and national “Green Investment Banks”, that can serve as brokers or enabling intermediaries between government, finance and industry.
- Agreements on standards for the labelling of low-carbon projects, so that investors and governments can be on sure footing in their reports to their stakeholders, and to support international liquidity in what will become a special class of trade-able bonds.
These matters are further explored on the following pages. The further detail of implementation design in these areas is being pursued by specialist international Working Parties in close collaboration with trial projects.