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HSBC’s targets for bond emission cuts will be ‘science-aligned’

Knight, Zoe (HSBC) 2020 from co for use 575x375.jpg

Bank’s sustainability expert Zoe Knight spoke to GlobalCapital after shareholder motion withdrawn

HSBC has gone a step further than many investment banks by revealing the amount of greenhouse gas emissions it supports through its capital markets business — at least, the deals it bookruns for oil, gas and electricity companies.

In 2019 — the year HSBC has used for its calculations, to avoid distortions from the Covid pandemic — the bank reckons the Scopes 1, 2 and 3 emissions it financed in the upstream and integrated oil and gas sector were 29.4m tonnes of CO2 equivalent through capital markets and 35.8m through loans on its balance sheet.

In the power and utilities sector, it facilitated 4.4Mt of Scopes 1 and 2 emissions in capital markets and 10.1Mt on balance sheet.

Scope 3 is the most important for oil and gas companies, because it includes the emissions when fuel is burnt, while Scopes 1 and 2 matter most for power companies, because they do the burning themselves.

Adding all those sums together makes 80Mt, about as much as the annual emissions of Belgium.

Zoe Knight, group head of HSBC’s sustainable finance centre, spoke to GlobalCapital about how the bank plans to tackle bringing these emissions down, as part of its October 2020 commitment to “reduce financed emissions from our portfolio of customers to net zero by 2050 or sooner”.

Banks have so far made more progress in calculating their emissions from their lending than capital markets financing, which HSBC defines as bond and equity issues and syndicated loans.

Much of the work involved is the same — emissions figures have to be calculated or estimated for each issuer. This is not straightforward. Only about a third of HSBC’s oil, gas and power clients reported their Scopes 1 and 2 emissions and 10% of the oil and gas firms reported Scope 3.

But then a bank has to work out what share of an issuer’s emissions it should be responsible for, based on how much financing it has done for the client.

HSBC’s capital markets emissions figures, published in February, follow an engagement campaign by ShareAction, the responsible investing NGO, and 11 institutional investors, which filed a motion in December to be voted on at HSBC’s annual general meeting in April.

The group have been pushing HSBC to reduce its financing of fossil fuel production, arguing that, six years after the Paris Agreement and more than a year after declaring its net zero ambition, the bank should not still be raising $23.5bn of financing a year for the industry.

That figure, HSBC’s 2018-20 average according to the database maintained by the Rainforest Action Network, includes $11.5bn of financing for 100 key companies expanding coal, oil and gas production.

Both sums are larger than the averages for 2016-17, according to RAN.

On March 16, HSBC made a fresh announcement about its fossil financing plans and work towards net zero, which was timed to coincide with the shareholders withdrawing their motion, in recognition of the progress HSBC was making.

The statement included a pledge that it would go beyond publishing its capital markets underwriting emissions, and by the end of this year set targets to reduce them.

So far, few banks have made such commitments, partly because they are waiting for an agreed methodology to be developed. But that should be ready by the end of 2022, since the Platform on Carbon Accounting Financials, a collaborative initiative between banks which has already developed a technique for loans, aims to have its capital markets guidance complete by then.

PCAF’s approach for on balance sheet finance — increasingly becoming the consensus among banks — involves sharing emissions equally across all a company’s capital structure, treating debt and equity equally.

Analysing capital markets underwriting relies on a similar approach. In advance of PCAF’s recommendations being finalised, HSBC is counting the same quantity of emissions for underwritten securities as it would if they are on balance sheet.

However, they must be counted separately to avoid comparing apples with oranges. Capital markets deals are a flow of financing transactions that pass through the bank during a period of time, whereas loans on balance sheet can be totted up at a point in time.

However, PCAF only gives banks a tool with which to describe their emissions — it does not guide them on how fast to bring them down, or how to do this.

For this, HSBC is drawing on all kinds of models and guidance, but particularly from the International Energy Agency’s Net Zero Emissions by 2050 scenario, published in May 2021, which environmentalists have hailed for declaring that no new fossil fuel infrastructure should be built.

HSBC’s published targets for on balance sheet fossil financing are to cut the absolute emissions of its oil and gas portfolio 34% from the 2019 level by 2030 — the same reduction used by the IEA in its scenario.

In power and utilities, HSBC is using an intensity metric: to cut emissions per kilowatt hour of energy produced to 140g by 2030, a 75% reduction from 2019’s baseline of 550g.

The standard used in the EU’s Taxonomy of Sustainable Economic Activities for sustainable power is a maximum of 100g, while a typical modern combined cycle gas turbine plant emits about 330g/kWh.

Writing to the bank’s CEO Noel Quinn and chair Mark Tucker after withdrawing their motion, ShareAction and the NGOs called on it to put meat on the bones of its commitments by ceasing any direct financing of new oil and gas projects, phasing out support for unconventional oil and gas, and demanding that clients have transition plans in place by the end of this year.

HSBC should also publish “core red lines and decarbonisation expectations” for assessing these plans, and state how it would get tough if clients dragged their feet.

GlobalCapital asked Zoe Knight about how this work is going and what the capital markets targets are likely to look like.

GlobalCapital: ShareAction and the investors that put forward the motion at your AGM say HSBC has made significant advances in your climate policies as a result of the motion, which was why they withdrew it. Is that right?

Zoe Knight, HSBC: With financed emissions, it’s such a new topic — everyone’s getting up to speed on it.

I think there’s a continual engagement with ShareAction and the investor community. The statement [on March 16] was more of a bringing together in one place all the things we have said we were going to do, and provides a bit more clarity on the timelines.

It’s about providing a continuum of information. That’s why this was so important to do, to keep up that transparency on our approach and set out a bit more material around what we are going to do.

The investors are particularly pleased that you have agreed to set a target to cut your financed emissions as a result of the capital markets underwriting you do, including bonds and equity deals — so-called facilitated emissions. You’ve said you’re going to set this target by the end of this year. Why not set one now?

At the end of last year we said what we were going to do, which is work with the PCAF coalition on a robust method for measuring facilitated emissions. We didn’t want to confuse colleagues and the external landscape by publishing something now which might have to change in a few months’ time. We felt it made more sense to get balance sheet and financed emissions done because we can own that methodology. We didn’t want to do two things at once.

Should we expect your reduction targets for facilitated emissions, when they do come, to be as ambitious as the ones for on balance sheet financed emissions?

That is a fair assessment. We are adopting a science-aligned approach, aligned with the IEA, so yes, our scientific approach will remain in place. What may change is new scientific evidence of what needs to be achieved — so that may mean the targets are different, but it wouldn’t be because our approach had changed, but more because the surrounding information had changed — we can’t be in control of that.

Could there be a difference because the portfolio of clients you have for bond financing is somewhat different from those in your loan book — or are they quite similar in fact?

[Taking time to set targets for facilitated emissions] is more to do with the practicalities of operationalising such a big piece of work — having the right methods and governance. We are making sure it’s in place. We spent a lot of time last year prioritising financed emissions — making sure we could record and track them.

Simultaneously we were working with PCAF to figure out facilitated emissions. I think it is as straightforward as saying: we are a big organisation, we are working really hard and fast on it. There’s nothing sinister in the fact we are not doing it this second.

You are cutting financed emissions in your oil and gas portfolio by 34%. On one hand, people could say that isn’t ambitious enough — scientists say total global emissions need to come down 50% by 2030. HSBC, being a top bank which finances good companies, ought to have a better chance than most of the economy.

But on the other hand, 34% lower emissions is a big change for the oil and gas industry. I would have thought that can only really be done by them switching to producing renewable power. Is that what’s going to happen?

Clearly the vast majority of what would solve a 50% cut is getting coal out of power, and there are a lot of activities we don’t have in the oil portfolio mix today. A lot is embedded in power, so consequently the power portfolio cuts are coming through much higher, even in carbon intensity.

On your second question, we are reliant on what the underlying oil and gas companies are doing, and we are asking them about their transition plans. There will be some investments to do with flaring and methane which they will have to do — methane emissions are becoming more transparent by satellite monitoring, so they will be under outside scrutiny. So their operational activities will start to have cuts [in emissions].

The other thing we’ll have to do is think about credible transition plans across all sectors. The starting point will depend on where a company is located and the ability there to shift the energy system. That’s one of the reasons we adopted a portfolio approach, to take some of these factors into account.

But there is a heavy engagement plan. We are embedding into the industry to understand how companies think they are going to deliver outcomes that are climate-aligned.

Within most oil and gas companies, whether state-owned or receiving shareholder engagement, they have internal teams working on transition plans. The tricky thing is knowing if a plan is on a scientific path to generate an outcome aligned with 1.5°C.

I was at CeraWeek [a major energy conference] in Houston last week and talking to a former colleague of mine who works in the oil industry. She said the industry themselves are really working hard on telling the story more effectively of how existing infrastructure needs to be transitioned, and have a narrative of journey and solution, not “we are here now — we need to be there tomorrow”.

By having a flag in the ground about financed emissions, it provides the space for us to have the conversation with companies about what is helpful.

How are your oil and gas bankers seeing this?

For every bank this is a completely new way of thinking, and similar to everything, some are more embracing than others — that’s just human nature.

Our climate heritage means it’s not a surprise to anyone — it’s an evolution. We are doing everything we can to give people the toolkit to have this conversation with clients.

They’re feeling more empowered to do it, and that means they can turn it round so it’s more of a relationship-building and solidifying issue, not a negative one.

We’ve been clear that our starting point is to finance the transition and help companies with that journey. Over time we will learn and engage. There may well be a point when a company doesn’t want to view the world in the same way as external stakeholders are pointing in terms of scientific alignment [and hence the relationship has to end].

If a large part of the transition for oil and gas companies is to become renewables generators, then I suppose at some point you have to decide whether you keep counting them under your oil and gas portfolio, or start analysing them using the power methodology?

It’s also connected with the granularity of your approach. You’ve said in your Financed Emissions Methodology that you are assessing companies at group level for now, but as data improves, you may adapt to more granular analysis by the specific entities you’re financing. If a group is transitioning, but its renewables assets are held in one subsidiary and its oil and gas in another, it could be quite hard to show progress.

We will have to keep reviewing the methodology and its scope over the next eight years. The reality will be that in 2050 there will still be use of fossil fuels for some activities. To be 1.5°C aligned it’s tiny and you have to have natural or human carbon sinks to counteract it.

But that residual use, whether it’s in shipping or heavy industry or cement or aviation, will come from somewhere. What the financial sector needs to get better at analysing is how the rest of the world gets emissions down and where that residual bit really sits.

Europe is at a crossroads in energy policy now, because of the Russia-Ukraine war, which is making policymakers think about how to ensure energy security. There are some who think Europe should go heavily for renewables, and others who think it should go for more gas, with new infrastructure. What would be your message to policymakers deciding about this?

They need to enable and empower a shift to hydrogen by creating both the demand and supply sides of the equation. They can do that by policy signalling. One of the things that came out of CeraWeek was that the oil and gas industry have a consensus that hydrogen is part of the solution. What is difficult for finance to establish is how the existing oil and gas infrastructure can be reconfigured to have hydrogen as part of the mix.

The other thing is the role for energy efficiency, which the war does bring home. It’s quite boring for investors, but it is a climate solution.