Green bonds: greenwash or the real deal?

Through the discussion of ‘greenwashing’, the article highlights two important issues for investment managers who portray themselves as ‘ethical’. One is the issue of ‘materiality’, the other is how ethical principles apply across the different types of securities that a company might offer to the market. Both of these illustrate how different ethical managers can still come to different conclusions about some investments on ethical grounds. It all depends on their ethical process.

Woolworths is a great example of how these issues come up, always providing a challenge for ethical investment processes. Their core business is not a problem - we all shop somewhere, whether it's at Woolies or a competitor - but as the article points out, they own poker machines and thus profit from Australia’s gambling addiction.

How concerned an ethical manager might be about Woolworths and gambling comes down to questions of materiality. Some ethical processes rule out a business that has any exposure to an unacceptable activity; others rule out a business that exceeds a revenue threshold from the activity. Ours at the Uniting Church has a 5% materiality threshold. From our research and understanding of their business, Woolworths sometimes does and sometimes doesn't breach this threshold with its gambling revenue.

It's also important in our view to look at trends and, as the article puts it, the "good faith" of a business’ overall strategy. If there are positive things being done, particularly to reduce the contribution of the problematic activity, then that should be taken into account. Unfortunately, Woolworths shows little evidence of intending to exit their pokies, though we note the growing pressure from larger shareholders on them in this respect, so it’s a space we’re watching keenly.

Overall, we don't exclude them (for materiality reasons), but they're always on our watch list. Some of our underlying asset class managers will take some exposure to Woolworths, but others do steer clear of them.

Using the same approach, we take a different approach to ANZ than the writer of the article. Their fossil fuel lending, though one of the largest books around in dollar terms, is nonetheless not a material part of their business. (It’s less than 2% of their lending, down from just over 2% in 2015. And the steps they’re taking – which go well beyond their Green Bond program – to change their lending away from fossil fuels and towards renewable energy is significant and worth encouraging. ANZ consistently rank highly among the Australian banks for their overall ESG programs and reporting. Finally, they’re committed to the United Nations Sustainable Development Goals, currently targeting support for 10 of the 17 SDGs.

For me, a better example of blatant greenwashing was the bond issued by Flexigroup. This is a company that we have no hesitation in putting on our excluded investment list. No amount of energy efficiency enhancement at their premises can hide the fact that they are a payday lender charging usurious interest to people who can least afford it. The Uniting Church – as with most Church-based investors – takes a very dim view of this practice and does not wish to profit from it or encourage it via investing in such companies.

We apply our principles across the balance sheet of any business. One way or another, funding a company is funding that company, even if the structure of a particular asset has a bias towards certain parts of the company. While Green Bonds are a good way of encouraging ethically neutral companies to adopt practices that reduce their emissions or support other climate-sensitive initiatives, for us it’s an unacceptable compromise to allow ethically negative companies to think they can attract our investors’ capital in that way. For this reason, we didn't participate in the green bond issue by Flexigroup.

Thus, while we look to invest in green bonds and are supportive of that market, they need to be issued by companies or agencies that we don't exclude for other reasons.

Other ethical investors may take a different approach (as it seems Australian Ethical do) and I’m not saying that one is right and another wrong. My point in raising these issues is to highlight that ‘ethical managers’ can’t all be looked at as if they’re making the same ethical investment decisions as each other. Investors who wish to use an ethical investment fund still need to do some homework to find out how each manager’s ethical principles are implemented in their portfolio. Asking how this issue of ‘greenwashing’ is treated in the decision-making process is one example of the type of question to ask.

Looks like Woolworths has taken a decision that will address this issue:

https://www.smh.com.au/business/companies/woolworths-reveals-plan-to-exit-the-poker-machine-business-20190703-p523le.html

Glad the market is checking the 'greenwash', but I'm not convinced on the NSW Treasury Green Bond.

While the transaction adheres to the Green Bond Principles, it appears that these are another example of the industry taking advantage of the current “self regulation” model in establishing the greenness of these transactions. The Green Bond Principles are published by the International Capital Markets Association (ICMA) i.e. a group of global bond issuers interested in creating the appearance of a strong green bond market.

To assess the Greenness of the new TCorp Bond let’s ask a few questions:

• Are the bonds linked directly or legally to the green projects?
• Was the funding ring-fenced so that those funds themselves funded green projects?
• Did TCorp make any additional green investments, over those that it had already made?
• Does TCorp intend to use the funds to further “green” its loan portfolio in any way?
• Does the risk or return on the bonds reflect the risks of these green projects.

What really makes it a Green Bond?

The Green Bond Principles have very soft criteria. They only require that the allocated assets are moved to a sub account, sub portfolio or “otherwise tracked by the issuer in an appropriate manner”. Put simply someone in the back office needs to maintain a spreadsheet with a list of assets that could be classified as “green” and try to ensure that these loan assets add up to more than the volume of bonds on issue. There is no penalty if this coverage no longer exists.

This bond is legally no different to any other issue by TCorp. Specifically, there is no legal, credit or cash flow link to the underlying portfolios. The loans have already been made in accord with the normal lending decisions of TCorp and the performance of the underlying portfolio has no impact on the performance of the bond. Indeed the balance sheet of TCorp will have as many brown assets as well as green ones ones before and after the issue.

Investors in Green or Sustainable funds have a right to expect active allocations from the fund to increase the funding available for green projects. Retail Investors believe that increasing green funds are changing the amount of funding available for green projects.

More appropriate, stringent and independent assessments of the “greenness” of a Green Bond, such as those provided by Moody’s, are rarely expected by institutional investors, rather they rely on the easy and soft principle of ICMA. Investors should be demanding that such issuance is delivered together with a commitment by the underlying issuer (government or bank) to increase their lending in the target area (relative not just absolute).