Caution creeps into green finance market

Green bonds are different in that they are regarded as a use-of-proceed financing, in which funds raised are assigned exclusively for a purpose, such as an eligible green project.

Jenkins says increased scrutiny from both regulators and investors on the targets and objectives embedded in the financing terms has been a big factor in the slowdown.

“Sustainability loans are premised upon uplifting the sustainability performance of the borrower. There’s much more opportunity, but with that comes expectations that it has to be credible,” says Jenkins.

He says there have only been two sustainability-linked bonds in the Australian market this year: one was a repeat issuer (engineering firm Worley), and another had issued in that format in offshore markets (Optus).

Fitch Ratings senior director Nneka Chike-Obi says the majority of sustainable-linked borrowings – both loans and bonds – are issued by non-financial companies.

“Macroeconomic conditions including interest rate volatility and inflation has had an overall dampening effect on corporate debt financing in the past 12 to 18 months, which has affected sustainability-linked loan activity in particular,” she says.

First sovereign green bond

While borrowers go back to the drawing board on sustainability-linked financing options, a big moment looms for the Australian green bond market.

The federal government plots its first sovereign bond, which is slated for mid-2024.

The Commonwealth’s debt issuance agency, the Australian Office of Financial Management, has hired UBS and National Australia Bank as structuring advisors ahead of that inaugural issue.

The move came despite initial scepticism within the AOFM about the merits of a green bond, given Australia’s heavy reliance on fossil fuels and an assessment that the cost benefit would be marginal at best.

But a directive from the new Labor government and the appointment of a new head of the AOFM led to a change of heart about the green bond program.

The expectation is an Australian government-issued green bond would further promote the development of the sustainable financing industry.

“The sovereign is now looking to lead by example, after being missing in action for a number of years,” Jenkins says.

States have led the way

While the first Australian sovereign green bond is months away, the states have been active issuers for several years since 2016 when Victoria’s $300 million five-year green bond was launched

Fund manager First Sentier described the West Australian government’s $1.9 billion 10-year bond sale in June 2023 as a “jewel in the crown” and says it has performed strongly in secondary trading.

The deal it says was a “seminal moment for a state that is so heavily involved in the mining industry and which was able to sell its net-zero transition story so effectively.”

Jenkins says the positive reception for the West Australian issue was a further demonstration that well-structured deals will win the market over.

“They had a number of very large-scale investment projects that have been earmarked to the budget, and they could build a great framework around that.” he says.

“The team have been called out by numerous investors as having done a good job of engagement with investors to listen to them address issues, and ensure that the approach has been credible,” Jenkins says.

“They’ve been able to demonstrate the linkage between government policy, the commitments they’ve made, and the flow of capital.”

Chike-Obi, who heads up ESG ratings and research at Fitch Rating’s sustainable unit, says other fossil fuel producing countries such as Nigeria, Saudi Arabia and the United Arab Emirates have issued green bonds.

“While some investors choose not to hold green bonds from these issuers, others have no concerns or will invest if certain conditions are met,” she says.

“Green bond investors will typically want to see how the financed projects will contribute to the issuer’s broader net-zero transition strategy, in addition to assessing the additional and environmental impact of the activities themselves.”