Principles for developing a green securitisation market in Europe

Principles for developing a green securitisation market in Europe  

Mindy Hauman is PS Counsel in White & Case Capital Markets Group and a core member of their sustainable Finance team. She is also a co-author of the G20 Sustainable Finance Study Group’s White paper on the development of a sustainable CLO market to implement the Paris Agreement.

On 11 September 2019, AFME published a position paper outlining their thoughts on what they see as the four key factors in developing and growing the green securitisation market in Europe.

What does the recently published paper on green securitisation by AFME set out?

AFME’s position paper sets out four key pillars it sees as fundamental for jump starting and promoting the growth of the European green securitisation market:

  • a clear definition of what a green securitisation is—this will help with identifying green securitisations and encourage reporting
  • more regulatory structure and once that is established, it will allow for transparent financial incentives. AFME believes that the introduction of tax incentives, preferential regulatory capital treatment for green securitisations and government support by way of guarantees and subsidies could help promote the growth of the green securitisation market
  • in addition to a clear definition of what a green securitisation is, clear green eligibility criteria are also essential to promote transparency on the underlying collateral and to ensure investments are, and continue to be, sustainable. AFME believe that the proposed sustainable finance taxonomy will provide an important criteria based tool to ensure market consistency and clarity especially for green securitisations, and
  • future proof deal structures through continuous reporting and disclosure and build in grandfathering and mitigation mechanisms for longer dated transactions to mitigate any loss of green label due to changes in technology or change in criteria over time

Why has AFME published this paper?

In order to finance sustainable infrastructure projects at the pace and scale required to achieve the goals of the Paris Agreement an investment of US$100trn in sustainable infrastructure is required over the next 15 years to support the world’s move towards the sustainable economy envisaged by the Paris Agreement. According to the Intergovernmental Panel on Climate Change, a seven-fold increase in annual investment in sustainable energy infrastructure alone—to US$2.4trn—is needed if the goals of the Paris Agreement are to be achieved. Sustainable securitisations can turn sustainable infrastructure loans and project assets into a liquid asset class connected to the world’s bond markets. Sustainable securitisations are an important financial tool with which to finance sustainable projects and fight climate change by mobilising and leveraging the previously untapped bond market and connecting it with sustainable assets—assets which cannot be financed by banks or the public sector with the pace and scale necessary to avoid irreversible damage to the environment.

The European sustainable securitisation market has been slow off the mark however; AFME members have received an increasing number of queries around green securitisations. As such, AFME seeks to facilitate discussions about this market through this position paper. The AFME position paper sets out what it sees as the key elements needed to help jump start this market.

What does AFME see as the most important factors in growing the green securitisation market?

In their position paper, AFME state that the new securitisation framework already sets out the highest disclosure standards for securitisation anywhere in the world. Therefore, EU securitisations compliant with these new standards should provide the requisite level of transparency and disclosure that a green securitisation needs to provide robust transparency and reporting that green investors require. The other two most important factors for green securitisations are a clear definition of green securitisation and green labelling.

Unlike the frameworks which have been developed and applied to green bond transactions, there are currently no universally agreed principles that define what constitutes a green securitisation, with terms being used generically to describe securitisations designed to have a positive environmental impact (for example, through providing financing for energy efficient housing). While there is no single definition of what precisely constitutes a ‘green’ securitisation, different standards have gained acceptance among market participants. Various organisations have started to provide green label certifications that indicate adherence to particular definitions of green, including ‘shades’ of green. In so doing, they align the incentives of those who want to invest in these structures, and make it easier for asset managers to satisfy those preferences. Here, AFME believe that ‘green securitisation should be reserved exclusively for transactions collateralised by green assets, ie the underlying collateral should be green.

This view means that if the underlying collateral is not green, the securitisation should not be classified as a green securitisation. Some green investors may have more flexibility and will invest simply because the proceeds of the securitisation were applied towards, or regulatory capital or liquidity relief achieved allocated to, green projects. However, many investors will only have a mandate to invest in securitisations collateralised exclusively by green assets. This is one of the reason for AFME’s view; their definition will promote clarity while the green securitisation market is still developing. An advantage to this definition is that it will help prevent ‘green washing’ ie where an investment is touted as sustainable but, when the use of proceeds or underlying are examined, they are not actually as ‘green’ as they appear or, in worst case, not green at all. This narrower definition also guards against ‘double counting’—where for example, an issuer would mistakenly ‘count’ the positive impact of the underlying green loan and then the green securitisation that that green loan forms part of the underlying collateral pool would ‘double count’ that loan again for the securitisation as a whole. The simplicity of the AFME view will promote transparency for investors.

What does AFME see the future looking like for green securitisations?

All the work that has been done with the new framework for securitisation in EU together with the work being done to produce a unified EU Taxonomy under the European Commission’s Action Plan on Financing Sustainable Growth should set in motion a virtuous circle. The key elements outlined in AFME’s position paper should help promote issuances of green securitisations providing funding to and increasing demand for green loans and projects, while also helping to develop common market standards which can form the basis for future preferential regulatory capital treatment for green securitisations. Strong investor demand for green investments allied with a desire by regulators to promote sustainable finance points towards a necessary growth in European green securitisations as a means to transform finance into a tool for combating climate change.

Interviewed by Emma Millington.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

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About the author:

Emma is head of the Banking and Finance team and the Finance Group at LexisNexis®UK.

Emma has wide-ranging experience in derivatives and capital markets with a particular emphasis on credit derivatives and structured products. Emma qualified as a solicitor with Allen & Overy LLP, working in the derivatives and structured finance teams in both their London and Paris offices before gaining experience with Deutsche Bank AG (advising the foreign exchange prime brokerage desk) and Crédit Agricole CIB (advising the fixed income and derivatives desk) before joining LexisNexis®.