There is no doubt the economy needs to become more resource-efficient and climate neutral. Yet, an increased demand for sustainability-related investment products and evolving regulatory regimes could unintentionally increase the risk of greenwashing .
The key features, drivers and risks associated with greenwashing are the subject of the Call for Evidence (CfE) published on 15 November 2022 by the three European Supervisory Authorities (EBA, EIOPA and ESMA). In light of the CfE, we hereby share our views in relation to green, and more widely, ESG securitisations and how to avert greenwashing.
At PGGM we actively contribute to the development of sustainable finance and have incorporated ESG standards in our investment decision process for every transaction we do. After all, the green transition and meeting the Paris climate goals require all businesses to contribute to improving the ESG footprint.
That is why, when investing in Credit Risk Sharing (CRS) transactions, we invest in the broader economy and not just in what is considered ‘green’. Rather than solely looking at the current ‘greenness’ of assets or companies, we look at how the real economy can become greener and the role of both banks and investors in facilitating this transition.
CRS: essential for the green transition
The shift to a climate-neutral economy requires vast funding and capital. Banks have a central role to play in this transition, yet their lending capacity is constrained. Through CRS, also known as on-balance-sheet securitisation, banks can free up capital which creates new lending capacity.
By pooling together a portfolio of loans, for instance corporate or project finance loans, CRS enables institutional investors – such as PGGM – to unlock banks’ additional capacity to lend, helping the real economy to invest in the transition. CRS transactions also help the banking sector to manage and spread its credit risk exposures in a sound way, leading to less systemic risk and a more robust and sustainable financial system.
As banks retain part of the risk in a CRS transaction (click here to know more) and actively manage the relationship with their clients, they are in a prime position to support the transition of their clients and to report on this effort and the resulting improvements in terms of sustainability characteristics to the investor. Especially in bank driven markets such as Europe.
Focus on ESG data: quality and quantity
We welcome the EU regulatory initiatives to support sustainable securitisation. That said, we find that the development of robust ESG securitisations – and not only ‘green’ as we also need to focus on social aspects and governance standards - starts with good-quality ESG data, which is currently lacking.
The EU Taxonomy Regulation and Sustainable Finance Disclosure Regulation (SFDR), while still developing, will bring much needed clarity in terms of definitions and disclosures on sustainability. However, what is holding back the market, and increases the risk of greenwashing, is the lack in both the quality and quantity of ESG data. Given that institutional investors are situated at the end of the investment chain, they are very much dependent on this data to solidify their due diligence and investment decisions.
This limited availability of ESG data today stems mainly from the fact that this type of information, which is largely non-financial data, has not been required until recently. There is also no clear standard on how this data should be presented or measured. Furthermore, both banks and investors are dependent on the Corporate Sustainability Reporting Directive (CSRD) and the European Single Access Point (ESAP) to receive the necessary sustainability-linked data from corporates. Yet, some companies and organisations will not be subject to CSRD reporting until 2026 or not at all. Thus, ESG data will remain patchy, leaving the doors wide open for the risk of greenwashing.
We hereby urge that the focus point in the green, or more widely, ESG securitisation debate shifts from the discussion about how to label a securitisation as ‘green’ or ‘ESG’, to the dialogue on improving the quality and quantity of the ESG data and agreeing on its measurement and reporting. Ultimately, banks, investors and regulators need this data to support their decisions. Therefore, improved availability of standardised ESG data is key to transition towards a more mature and robust sustainable securitisation market and to mitigate the risk of greenwashing.
Greenness of CRS depends on ESG data
The development of sustainable activities and the transition to a low-carbon economy rightly is the focus point of all market participants. However, maintaining a portfolio consisting only of green assets, such as wind parks, is simply not feasible. More importantly, we need to look beyond what is already green and support the many different ways in which the real economy is currently transitioning. This is what makes the biggest impact.
We believe that we can achieve a lot more by identifying green underlying exposures for a securitisation by selecting (1) sustainability-linked loans, which stimulate corporates to transition by agreeing on clear ESG targets as part of the loan contract, and (2) a portfolio of loans that will become ESG-friendlier (‘greener’) throughout the replenishment period.
This can be done by looking at the percentage of green exposures in the portfolio such as financing of green assets (like solar parks) or lending to companies with largely sustainable activities (such as recycling). Another way is to measure an ESG metric such as carbon emissions for the portfolio as a whole. While we welcome the growth of assets and companies which are already green or advanced in meeting their ESG goals, we believe that sustainability-linked loans and securitisations are particularly important in making the required transition possible.
In all these cases, the ‘greenness’ of the transaction depends on the underlying exposures – being either a green asset, company or loan - in which we share the credit risk and the ESG characteristics thereof. From our investor’s standpoint, it must be clear that the ESG score of a portfolio underlying a securitisation improves during the life of the transaction as the underlying companies are making progress in the transition. Consequently, good-quality ESG data is absolutely crucial and will help to mitigate the risk of greenwashing1.
An often-discussed alternative is the ‘use of the proceeds’ (UoP) approach which requires that the bank uses the freed-up capital for origination of green lending. However, this creates a disconnect with the ESG-related risk of the securitisation itself. Although the UoP method may help the bank’s loan book to become greener, that does not benefit the investor in the securitisation. Based on how the proceeds of such transaction are deployed, even an underlying portfolio consisting of loans to oil, gas and coal mining companies which are not committed to improving their environmental footprint could be used for a “green” securitisation. This creates the risk of misleading ESG claims. In addition, the refinancing risk has been moved to the investors as well. Furthermore, tracking that the proceeds are indeed used for additional sustainable lending and supporting this through the right data is not obvious. The same applies for the consequences of failing to achieve the intended sustainable lending goals.
By focusing on the real economy as a whole, CRS can positively contribute to the transition essential to meet the Paris climate goals. And regulatory initiatives to stimulate sustainable securitisation can produce the desired results, without the risk of greenwashing and with the right alignment between investors and banks, only when high-quality ESG data becomes available. Defining what is the right data and start collecting it, is what we all should spend our time and effort on first.
1 For the purpose of this paper the term “greenwashing” refers broadly to sustainability-related claims relating to all aspects of the ESG spectrum (meaning environmental, social and governance dimensions)
In April 2021, the framework for Simple, Transparent and Standardised (STS) securitisations became applicable to on-balance-sheet securitisations, which is the technical legal term for our Credit Risk Sharing (CRS) transactions.
Alecta and PGGM have entered into a credit risk sharing transaction with Nordea, referencing a € 2.5 billion portfolio of loans to large and medium-sized corporate clients across Denmark, Finland, Norway and Sweden.
Standard Chartered, PGGM (on behalf of PFZW) and Alecta have extended their longstanding risk sharing relationship by entering into a new synthetic credit risk sharing securitisation transaction.
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