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Review of green bonds finds energy-efficiency carbon offsets tricky to calculate

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Review of green bonds finds energy-efficiency carbon offsets tricky to calculate

A review of dozens of green bonds that financed more than 800 projects found renewable generation tended to offer the highest potential avoided carbon dioxide emissions while energy efficiency projects show mixed results and their environmental benefits were trickier to calculate.

Data analytics provider ISS-Climate and green bond and social bond asset management company Affirmative Investment Management Partners Ltd., or AIM, spent two years examining the carbon yield of more than 55 green and sustainability-linked bonds AIM had purchased and that had financed projects in more than 80 countries. The carbon yield review also was backed by The Rockefeller Foundation. The carbon yield of each project was calculated as the number of tonnes of carbon dioxide equivalent expected to be avoided annually for every $1,000 invested.

Bonds are a form of debt securities used to finance or refinance projects in which an issuer, such as a corporation, municipality or sovereign government, borrows money from investors for a defined amount of time at a variable or fixed interest rate. A bond with a "green" label means the issuer earmarked the proceeds to go to new or existing projects that meet specific environmental objectives, such as offsetting carbon dioxide emissions.

The new carbon yield methodology aims to tackle some of the biggest challenges around green bonds, including ensuring that the proceeds will advance environmental objectives and also potentially preventing double counting of carbon reductions, the report said.

The report found that renewables result in higher amounts of avoided emissions than any other sector. "This trend largely holds across geographies," the report said.

The report also outlined some significant remaining hurdles, including a lack of access to accurate and good-quality data and the need to put extra thought into calculating the carbon benefits of energy efficiency projects.

The report "highlighted the need to be really nuanced around energy efficiency projects as sometimes that gets treated as one broad sector whereas there are a lot of different ... ways to apply energy efficiency," AIM Partner Lisa Wong said in a Sept. 4 interview. "Energy efficiency in a building is very different from energy efficiency in transport or if you are trying to improve efficiencies in an industrial process." She said AIM has always used a nuanced approach to energy efficiency in bonds, and the report confirms "we were on the right track."

Energy efficiency is considered by some experts to be a key component of the transition to a low carbon economy, and the International Energy Agency has found that efficiency will need to provide about 44% of total emissions reductions to limit global warming to 2 degrees Celsius above preindustrial levels, the report said.

For renewables and efficiency projects, countries and regions with higher carbon-intensive energy systems produce the strongest carbon yield results. But determining the abatement potential of energy efficiency projects is "methodologically challenging when given limited information as it is so context dependent, particularly on the carbon intensity of the existing energy system and comparable alternatives," the report said.

For instance, a public transportation energy efficiency project in France likely will produce a lower level of emissions abatement compared to a similar project in a country such as Indonesia, which has much higher emission levels and relatively little public transportation, the report said.

Investors also should consider context, such as the sector and technology where the energy efficiency will be applied, according to the report. As an example, the report said improving efficiencies in oil refining can be viewed by some investors as a "highly impactful strategy and part of a low-carbon transition," but other investors "may find it entirely counterproductive ... since the project would make carbon-intensive technologies more competitive and long-lasting."

The report also highlighted ongoing problems with the lack of consistently applied reporting standards and access to data.

"The tracking of project-level data is an onerous and resource-intensive task," the report said. "There is a considerable variation in reporting." The market has a few actors who dedicate significant resources to impact reporting "but the majority of issuers do not provide the same quality of disclosure."

That also means that while the methodology can be used by issuers, investors and analysts, the issuers are best placed to use the formula since they have direct access to the project data, the report said. It also noted that investors can aggregate the carbon yields of different bonds in their portfolio to determine the portfolio level carbon yield as well, which Wong said is the way AIM expects to report on its impacts.

Although issuers in the past two years have become better at providing information, and most issuers are willing to provide investors with the details they seek, "the state of reporting would likely improve if more investors showed a greater interest in the results," the report said.