Mirova B(ey)ond Green - How can the emergence of ‘transition finance’ boost the market for labelled bonds?

Felipe Gordillo, Senior ESG Analyst, Mirova

First of all, the word ‘transition’ must be clarified, because there is confusion about how it is used. Three definitions are commonly employed by the financial markets:

• The ‘transition of the economy’: this involves transforming economies to bring them in line with decarbonisation objectives. In principle, all sectors and activities should be able to undertake ‘transition’.
• ‘Carbon-neutral transition’: this concept refers to sectoral greenhouse gas (GHG) emissions reduction trajectories, aimed at achieving ‘Net Zero’ targets in line with science-based climate scenarios.
• Transition in ‘hard-to-abate’ sectors (i.e. those whose GHG emissions are the most difficult to reduce), which focuses on the development of technologies that enable significant reductions in GHG emissions today; solutions that may prove sub-optimal in the long term because they emit GHGs or having other negative impacts on nature, like: producing ammonia or hydrogen from fossil fuels.

Over the past two years, public authorities in jurisdictions including Japan, the European Union and Singapore, as well as country groupings such as the OECD and the ASEAN Capital Markets Forum, and market players such as the ICMA Green Bonds Principles (GBP) and the Climate Bonds Initiative (CBI), have developed analytical frameworks aimed at tackling the third category, which covers the notion of mitigating GHG emissions in the 'hard-toabate' sectors, which have the greatest difficulty in reducing their carbon footprint.

These initiatives make it possible to design tools or establish areas of action where debt can contribute to decarbonisation, using instruments such as green bonds or loans in particularly polluting sectors (oil, gas, chemicals, metals and mining, paper, airlines, cement and shipping). These instruments will need to be tied to trajectories that are scientifically informed and designed, as well as consistent with the Paris Agreement, and develop innovative value chains (e.g. blue, grey or green hydrogen) to overcome technical obstacles, such as clean energy storage, or physical constraints linked to the location of industrial sites or the use of toxic chemicals.

Mirova considers the development of innovative value chains to be essential in the fight against global warming and the challenges posed by biodiversity loss, but only in such cases where:

• the risk of ‘lock-in’ can be mitigated at the design stage of these projects by allocating capital for decommissioning of sub-optimal technologies that will become obsolete in a near future,
• science-based decarbonisation trajectories are benchmarked for companies and innovative products,
• an effective and credible decarbonisation strategy exists within the company,
• assessments are carried out to anticipate the social and governance impact and actions implemented to ensure a just transition,
• cost-benefit analyses compare the innovative solutions with existing technologies for industrial decarbonisation.

Issuers from sectors that are difficult to decarbonise are still poorly represented in the labelled debt market: in 2023, they amounted to just 3%, even though these sectors make a significant contribution to global GDP (28% in 2021 per the IMF). Mirova believes that the development of green bonds issued by companies operating in sectors that are difficult to decarbonise offers an excellent opportunity to boost the labelled debt market and deliver on the promise of sustainable economic transformation.