In a year that has seen increased momentum in putting sustainability on top of the world’s agenda, Sofia Lotto Persio evaluates the extent to which green is replacing greed in the trade finance industry.

“Once climate change becomes a defining issue for financial stability, it may already be too late.” These were the ominous words with which Bank of England governor Mark Carney addressed a crowd of insurers and financiers at a Lloyds of London dinner in October. The bank has been almost extraordinarily vocal in warning investors of the risk involved in fossil fuel and coal investments. With the United Nations (UN) Paris Climate Conference set to bring together world leaders to agree on a global climate deal in December, sustainability issues are high on the business agenda. “It is not just about being green, it is about ensuring you are building a business for the future,” says Gordon Sparrow, head of trade and supply chain finance at Westpac.

Westpac is part of the Bank Environmental Initiative (BEI), a group also comprising Barclays, BNP Paribas, BNY Mellon, Deutsche Bank, Goldman Sachs, Lloyds, Northern Trust, RBS, Santander and Standard Chartered, and convened by the Cambridge Institute for Sustainable Leadership (CISL). The BEI aims to financially support environmentally and socially sustainable economic development. Commercial bank involvement is a step in the right direction since, thus far, financial support and drive towards sustainability has come primarily from multilateral banks and international institutions.

So far, the European Bank for Reconstruction and Development (EBRD) has pledged to invest €18bn for green financing, scaling up in areas such as renewable energy project finance and credit lines to local financial institutions seeking to develop sustainable energy financing. The International Finance Corporation (IFC) has arranged close to US$1bn worth of climate-smart investments in Europe and Central Asia in the latest fiscal year. The Asian Development Bank (ADB) also intends to double its annual climate financing to US$6bn by 2020. Involvement in green and climate finance is shared by the more newly-formed multilateral organisations. The China-led Asia Infrastructure Investment Bank (AIIB) has pledged to be “lean and green”, and Indian Prime Minister Narendra Modi has emphasised that the BRICS’ New Development Bank’s first funding should go towards a green project. “Multilateral banks that are active in the trade finance space are starting to use their influence to encourage and enable commercial banks to do more sustainable trade finance […] enabling them to have lower cost of funding when they finance the trade of sustainably-produced commodities,” says Andrew Voysey, finance sector director at CISL.

As a recipient of many multilateral and international financing institutions, Asia represents a pivotal centre for sustainability risks and opportunities. This is where the most amount of coal is produced and consumed; where half of the top 10 countries responsible for emitting the largest amount of CO2 are located; where forest fires cause economic and health disruptions and where a global temperature increase could have devastating consequences for crops, people and trade.
Perhaps recognising the impact China’s decisions have on the global economy and environmental efforts, the country’s banking regulator has invited the BEI to discuss how it could “green” the financing of its commodity imports. “We’ll be doing a workshop in Beijing in early November to start that process. We have already seen the Chinese tightening up restrictions on importing the dirtiest forms of coal so you can completely see a starting point for them and where their self-interest lies,” Voysey tells GTR.

Trade finance solutions

Despite being the most polluting energy sources, coal and fossil fuel aren’t the cause of all emissions. According to the UN, the process of converting forest into agricultural land accounts for more emissions than the entire global transportation sector and is second only to the energy sector. Indeed, the CISL initiative for a greener trade finance has given priority to tackling deforestation in agricultural supply chains, focusing on palm oil and developing the sustainable letter of credit. This financing solution can be used by banks to incentivise the international trade of sustainably-produced commodities, which can be traced and identified throughout the supply chain. The IFC gives preferential terms for this type of shipment to its partner banks, offering potential reductions in the cost of capital. The sustainable letter of credit was the result of the Soft Commodities Compact, a statement of intent saying banks will work with their consumer goods and commodities customers to drive deforestation out of the agricultural supply chain by 2020. The initiative has been undertaken by the non-American BEI banks, joined by Rabobank and UBS. “We believe there is now over 50% of the global trade finance market behind that statement,” says Voysey.

Banks’ sustainability performance is measured by independent bodies like S&P Dow Jones Indices and RobecoSAM, who collaboratively maintain the Dow Jones Sustainability Indices (DJSI), which evaluate companies against sector-specific criteria. Companies are invited to fill in a questionnaire and provide evidence of their data, which is then independently checked and verified and provides the basis for selecting industry leaders. A change in a company’s circumstance can dictate its removal from the indices, which happened to Volkswagen following the recent emissions scandal. The impact of these results remains unmeasured, but investors seem to nonetheless appreciate the DJSI. “The companies listed are perceived to be a safer investment than others,” Julia Kochetygova, head of sustainability indices, S&P Dow Jones Indices, tells GTR.

Westpac topped the DJSI category for financial institutions. “When we do our due diligence we don’t just look at the financial standing, we look through that to see if they are responsible in how they do their business and whether we’d be undermining our position in any way by doing business with them,” Sparrow tells GTR. “When you’ve got financial capability, it comes with responsibility and it has a cost attached to it. It means we do walk away from some transactions that could be lucrative to us because it
is the right thing to do and we do build processes that are more expensive to deliver because, again, it is the right thing to do.”

Whether it is considered a cost or an investment, sustainability brings a return to those who prize it. “One specific benefit some banks have seen is in their debt capital market business. There are real examples of consumer goods companies that have issued green bonds and when it came to selecting which banks to work with as underwriters for those bonds, once they had assessed traditional differentiators between competitors, took into account which banks had adopted the Soft Commodities Compact as evidence of an alignment of values,” says Voysey.

The coal factor

Discussions about investments in coal are more controversial than those surrounding soft commodities – unsurprisingly so, given the size of investment required to finance a coal mine or plant. According to an index published by Dutch NGO BankTrack, almost half of the banks involved in the BEI are also in the top 20 of banks providing funding for coal-related projects between 2011 and 2014. However, two of the banks listed in the top 20 have recently announced they will stop lending to coal mining companies: Citigroup and Bank of America made this pledge following a wider campaign for emission reduction in the US that culminated in 81 companies signing the American Business Act on Climate Pledge to demonstrate their commitment and support for action on climate change.

The role of export credit agencies (ECA) has also been the topic of many discussions, especially among OECD countries who’ve been struggling to agree on a common position on this matter. “Based on work we’ve done with practitioners across the market, I think ECAs can be catalytic. I suspect there is a lot more they could be doing in support of their governments’ sustainability ambitions,” says Voysey. France is trying to set the bar high, being the host country of the UN Climate Conference, and therefore vowed in September to end coal export credits for all new coal power projects that were not equipped with a device for capturing and storing carbon dioxide – a move consistent with French banks Crédit Agricole and Natixis’ decision to stop lending to coal mines. Japan and Germany on the other hand have been opposing an end to coal subsidies, but as GTR goes to press, rumour has it that Japan and the US have reached a deal on ending ECA-backed coal finance.

According to a recent report published by Oil Change International, the Natural Resource Defence Council and WWF, the Japanese and German ECAs are some of the biggest supporters of coal investments. But data provided by Euler Hermes to GTR actually shows the German ECA’s support of coal and fossil fuel project decreased from 2013 to 2014. “There is no clear trend, which is also true for the previous years. If there is a big coal plant deal, numbers are high; if not, numbers are normally low to very low,” Philipp Rossberg, Euler Hermes COO, tells GTR.

Rossberg explains a position that many coal investors have been advocating: as many emerging markets struggle with energy production and existing coal plants tend to be outdated and inefficient, withdrawing ECA support for advanced, “cleaner” coal technologies may cause more harm than good. “To us, the key point is to ensure a high grade of efficiency today in order to promptly reduce greenhouse gas emissions and other pollutants until the implementation of renewable generation capacities becomes technically and economically feasible around the globe,” he says.

Regardless of the reasons for supporting coal investment, financiers should be aware of the risk involved. As Governor Carney warned, coal and fossil fuel investment carry a higher risk due to possible changes in regulations that could negatively affect the investment. “There are some major structural changes afoot in the global economy in terms of key systems like energy, mobility and manufacturing,” says Voysey, advising: “Understanding these transitions has to be high on the list of strategic issues financiers are thinking about to keep exposure to changing risks more under control.”