Transition bonds should make room for green enablers
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Transition bonds should make room for green enablers

Funded by green bonds, decarbonized assets are driving emissions upwards in other sectors that supply the necessary raw materials and shipment services. A capital markets transition label ought to factor this in.


There is no denying that transition finance is becoming more popular, both among asset owners, who want to be rewarded for avoiding future emissions with their allocations, and among lenders, who don’t want to abandon their clients.

As bankers love to remind me, sustainability can’t just be about buying green assets and selling brown ones. It must also be about taking the brown assets and making them a little greener.

In the bond market however, the transition label isn’t quite ready to take over from the colour-coded product, mainly because it still lacks clear boundaries. Transition finance leaves investors confused about portfolio classification and exposed to greenwashing allegations.

This is an opportunity for market intermediaries to offer new benchmarking tools that can steer asset owners towards the right industries.

Investors want comparable transition pathway data; but only once that is accompanied by a clear list of industries entitled to benefit from transition finance can the green-enabling corner of financial markets take off.

Shallow waters

In its climate transition finance handbook, the International Capital Market Association clarifies that ‘transition’ or ‘climate transition’ is best understood as a theme that can be financed by green and sustainable and sustainability-linked bonds.

The creation of a specific transition label is also taking place across different regions and countries, especially in Asia.

What is unclear is whether there is a consensus on what the boundaries of the transition bond label should be. If it were to be a subset of the green bond market like blue bonds, it could only follow a use-of-proceeds model.

But defining a clear set of eligibility criteria for projects will be difficult, so the target and key performance indicator structure of the SLB model could be a better fit for hard-to-abate sector issuers.

More data on decarbonization progress means investors can compare issuers, but this doesn’t tackle the underlying problem

The result of this confusion is a very underwhelming volume of issuance. To date, transition bonds represent 0.4% of the sustainable bond market.

According to data from the Climate Bond Initiative – which considers transition bonds as “as an independent category but regards them as a subset of the green label”, transition-labelled bonds reached a cumulative volume of $12.7 billion by the end of the third quarter of 2023, with year-to-date issuance at $1.7 billion, down from $2.7 billion the year before.

“The lacklustre growth in deals bearing the transition label is due to absence of clarity and established standards for the label, making its application confusing for issuers,” the CBI wrote in its sustainable debt market summary.

Investors will always prefer some level of uniformity in issuance so that they can compare deals, but since the circumstances of transition look different from one issuer to the next, it is up to the data providers to step in with benchmarking solutions drawn from decarbonization data at entity level.

Focus on issuers

This was the case back in November 2023, when ratings agency Moody’s launched its Net Zero Assessment (NZA), which scores companies on a five-point scale to indicate its view on the strength of their transition pathways in line with the Paris Agreement 2015 targets.

Sustainable Fitch did something similar in June for energy companies. Its transition assessment assigns a colour-coded rating to judge transition pathways “via a series of performance indicators spanning across emissions ambition, emissions reduction and financial efforts to achieve the desired transition.”

Another is the Transition Pathway Initiative, which provides climate performance indicators such as management quality score, classifying companies on five different levels according to the management of their greenhouse gas emissions and risks and opportunities to low-carbon transition.

These tools are useful for deal arrangers who want to appeal to investors and sell transition products.

Transition indicators are essentially plugging the gap in sustainability data left behind by environmental, social and governance scores and science-based targets.

ESG scores are too broad to be used as a benchmarking tool for corporate progress on transition because they cover too many criteria – decarbonization is just one of them.

Science-based targets are too forward-looking and only tell investors if the issuer has selected the right targets or not according to scientific expertise.

Transitioning or enabling?

More data on decarbonization progress means investors can compare issuers, but this doesn’t tackle the underlying problem: How do you differentiate between a hard-to-abate sector that needs funding to transition because it is essential to the economy and one that should be phased out altogether?

The difference lies in the green value chain and the indirect emissions linked to green bond investments.

If we look at each eligible project for a green bond, it probably relies on critical mid- and upstream industries that are highly emitting, most likely in raw minerals.

Icma launched a taskforce in 2024 on green-enabling activities that aims to explore the “opportunity to create a dedicated green bond eligibility category, leveraging on the definition of ‘Green enabling activities’” – should there be market appetite for this.

So, perhaps the transition label should also apply to investments going in at the top of the value chain to feed into decarbonized products and services?

Transition is much more complex than simple issuer-level efforts to decarbonize, and capital market labels should reflect this.

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