Sustainable financing has been growing rapidly in central and eastern Europe, the Middle East and Africa as issuers have joined in enthusiastically with a trend that until recently had largely bypassed the region.
Despite the ravages of the coronavirus, green, social, sustainable and sustainability-linked bond issuance more than doubled in CEEMEA in 2020, to $15bn-equivalent, and last year rose by 80%, to $28bn.
The pace of growth outstripped western Europe in 2020 and matched it in 2021, according to Dealogic data.
Globally, only the markets in south Asia, north Asia and Australasia grew faster last year.
“These regions are likely to become very active,” said Jarek Olszowka, head of sustainable finance at Nomura in London. “There has been a step change. Ministries in central and eastern Europe are organising a lot of events, local banks are hiring chief sustainability officers and dedicated teams. Four or five years ago some of them felt sustainability belonged in the same bucket as charity events — it was a marketing thing. That has gone now, in the vast majority of cases. They see it as of strategic importance. A lot of changes are being driven by the stewardship work of equity investors.”
Poland beat France to issue the first sovereign green bond in 2016, even though environmentalists were critical at the time of its policies on climate change. But it has taken a long time for that early leadership to bear fruit in wider issuance.
It is now happening, as a virtuous circle gradually builds of issuers being reassured by seeing peers use the technique — and fearing missing out if they do not do so.
There were 49 deals in 2021, almost four times as many as two years earlier. Hungary has issued the first sovereign green Samurai bonds, while Egypt issued the first sovereign green bond from the Middle East and north Africa in 2020, raising $750m, and followed it with a $3bn green loan last November.
Giving up the fight
One factor is waning political resistance to green issues. Until a few years ago the ruling parties in countries such as Poland and Hungary were resisting EU policies on climate change, and even voiced climate-sceptic views. But they have dropped that opposition, perhaps judging that they have enough battles with Brussels over issues such as the rule of law and independent judiciary.
The steep fall in costs of solar and wind energy has also helped gain acceptance among public and private sector organisations.
However, despite widespread willingness, this may not be another year of strong growth for green finance in the region. “This year we are expecting much lower bond issuance volumes from CEE and Middle East,” said Ajit Punia, head of Ceemea debt capital markets at Nomura in London. “The share of ESG issuance should increase, but overall volumes will probably be down.”
Issuers are focused on negotiating the crisis of the Russia-Ukraine war and soaring energy prices — which are good for some issuers, if bad for many others.
This is also stimulating interest, however. “The importance of the ‘S’ in ESG has gone up dramatically with the influx of refugees from Ukraine,” said the head of debt capital markets at a bank in London. “Nothing has happened yet, but if I were a Polish bank or company or development agency that was spending a lot of money supporting refugees, that is a social bond waiting to happen. We are pitching it hard.”
The Council of Europe Development Bank issued a €1bn social inclusion bond in April to help finance spending on the refugee crisis.
Fast and slow lanes
Across the region, the factors in favour of and against adoption of sustainable finance vary. The most basic issue is how fast an economy is transitioning to greener practices.
Punia pointed to Greece as a standout example. “Their entire development plan for the next 20 years is focused on green energy. Even the big historical issuers are all diversifying with renewables divisions and that is their area for future growth. It’s a good example of public-private partnerships.”
So far there have been $4bn of GSSS bonds from Greece, from five issuers including two of the large banks, Piraeus Bank and National Bank of Greece, and Public Power Corp, the main electricity company, which issued €1.275bn of sustainability-linked bonds in three deals last year, tied to cutting its Scopes 1 and 2 greenhouse gas emissions 40% from 2019 levels by the end of this year and 57% by the end of 2023.
Other parts of the region are much further behind. Much of the Middle East is still wedded to an economic model based on expanding fossil fuel production.
However, even here, green investment is growing, and has already been directly connected with the capital markets through labelled instruments.
“In the Middle East there is immense potential,” said Punia. “The transition from hydrocarbons to green energy is going to be massive in that region. There is a lot of project finance going on already with bank lending. On the social side, there are a lot of initiatives to happen. People are not focused on bond issuance now, more on bank lending, but I would expect in more normalised markets, the Middle East to continue to grow.”
EU in the way
In central and eastern Europe, the prospects are more clouded. Latvia, Slovenia and Lithuania have joined Poland and Hungary as sovereign issuers, but there are obstacles to broadening and deepening use of the market.
Government issuance, in particular, has been made more difficult by the European Union’s NextGen programme of grants and loans, a third of which must go to climate projects.
“CEE sovereigns would ideally have liked to have [a substantial share] of their bond programmes in green format, but so many EU loans are being allocated that it’s very hard to find new assets that are unencumbered,” said Punia. “We’ve seen similar when we speak to other member states in western Europe.”
This makes it harder to establish liquid benchmarks for the green bond market. “It will be a challenge for the next few years, but eventually there will be enough,” he said.
A similar crowding out has happened with social bonds, of which there have been few in the region. The EU’s Sure programme covered much of the cost of member states’ furlough programmes during the Covid pandemic, leaving little for them to finance with social bonds.
Supply and demand mismatched
In the private sector, there are not that many large bond issuers. Some fund themselves in domestic currencies, such as with zloty bonds in Poland. ESG investing is underdeveloped in those markets — there is some interest, but few dedicated green or ESG asset pools.
And when it comes to international markets, the kind of emerging market-focused funds in the forefront of buying CEE bonds are also not as keenly interested in ESG as mainstream west European investors.
As for the Western money that clearly is allocated to ESG, “if you don’t have an investment grade rating for a green bond, fewer ESG funds tend to play,” said Punia.
A comparison with GSSS bond issuance in Latin America is instructive, the head of DCM points out. “In Latin America it’s growing — there could be a higher portion of financing there in ESG format than in Europe, because the state is a bigger player. There are more resource companies, which tend to be at the cutting edge of what needs to happen environmentally, there are more state-owned companies, and more state-owned [investors] that want to show they are ESG-positive.”
The European Bank for Reconstruction and Development and European Investment Bank are trying to stimulate issuance by investing in ESG bonds from CEE, such as the €500m debut green bond issued by MBank, Commerzbank’s Polish subsidiary, in September 2021.
Crucible of transition
An important deal market participants point to as a milestone was the €500m debut green bond in May 2021 for PKN Orlen, the Polish national oil company, which is 27.5% state-owned.
The company is right at the heart of the region’s fossil fuel-intensive economy. Its transition is at an earlier stage than Public Power Corp’s in Greece — it is aiming to cut operational emissions from its refining and petrochemical business 20% and the emissions intensity of its power output 33%, both by 2033. But PKN Orlen was praised for taking a “dark green” approach to its deal, including only investments that were unequivocally green and obtaining certification from the Climate Bonds Initiative.
“Overall, [CEE issuers] are more looking to see what is happening in London, Paris and Amsterdam, rather than trying to create their own products or [standards], which is a good thing,” said Olszowka.
Nevertheless, as the energy transition gathers pace, there could be pressure for more permissive standards.
The CEE countries pushed vehemently for the EU’s Taxonomy of Sustainable Economic Activities to include some uses of gas and nuclear power, and eventually got their way in January.
“With the whole situation in Ukraine you are going to see gas playing a much more increasing role in the energy mix,” Olszowka said. “In Poland there’s a big push on LNG.”
Far from having been put to rest by the Taxonomy, wrangles over ESG standards are likely to intensify.
But they are far outweighed by the potential for progress, and for the capital markets to lend a hand.
“Once the war in Ukraine [ends], there will be a huge opportunity to build back, taking into account green factors, with green buildings,” Olszowka said. “The role of the EBRD and multilaterals will be important. A lot of cities will have to be built basically from scratch.”