Would you rather invest in a project that saves 0.5 or 5 tonnes of CO2? Would you be willing to accept a lower monetary return if it means achieving a greater positive environmental impact?
While sustainable investments are becoming more popular, recent studies challenge two common assumptions.
1. Investors are willing to pay a premium for projects with higher environmental benefits (one study found they are not).
2. Investing in sustainability automatically boosts profitability. This highlights the need for a deeper examination of the true drivers and outcomes of sustainable investing.
Welcome to Supercharging Sustainability — my monthly newsletter featuring insights on sustainability, ESG 2.0, and sustainable finance for non-experts and experts. Here, you will find a blend of strategic insights, case studies, best practices, recent developments, personal anecdotes, and practical tips.
Greenium, a blend of green and premium, refers to the higher price investors are willing to pay for sustainable financial products compared to conventional ones. Greeniums are most often discussed around labelled debt instruments, such as green bonds, accounting for roughly 10-15% of the global debt market. The concept suggests that investors might accept a lower interest rate, such as 3.4% instead of 3.5%, for financing green or sustainable activities—essentially paying extra or sacrificing returns.
Research by the Climate Bonds Initiative in September 2023 found that 32% of 50 green bonds analysed achieved a greenium. Another study published in 2021 looked at 2,000 green and 180,000 non-green bonds from 650 international issuers and concluded that greeniums exist. However, an October 2023 study by the European Securities and Markets Authority (ESMA) could not confirm the existence of a systematic and consistent pricing advantage for any ESG bond category (also called GSSSB or labelled bonds). The study concluded that past pricing premiums for ESG bonds were more closely tied to the issuers' characteristics, such as their business fundamentals, than their sustainability commitments.
Having worked on close to a hundred labelled financing transactions, I frequently encounter the question of greeniums. Issuers naturally often ask, "Will I get a greenium?" or "How will I benefit?" The answers from myself and others have rarely been clear-cut. This reflects the ongoing debate surrounding greeniums and has fuelled my interest in understanding this dynamic at a deeper level.
Moving from labelled debt to equities, numerous studies suggest that a robust and material ESG strategy can lead to benefits such as revenue growth, cost optimisation, fewer regulatory interventions, improved employee productivity, and asset optimisation. The costs associated with ESG initiatives, including compliance, third-party services, reporting, and core operational investments, are often viewed as necessary for future viability and maintaining a social license to operate.
The notion that companies can increase profitability and improve their competitiveness by doing “good ESG” has driven the ESG investing boom over the past decade. The widely cited 2015 study, “Corporate Sustainability: First Evidence on Materiality”, claimed that companies with strong ESG ratings outperformed those with lower ratings. Similarly, a 2014 study concluded that superior performance in corporate social responsibility (as ESG was referred to at the time) correlated with better access to financing.
However, these findings are now under scrutiny. Recent replicas of these studies have found no evidence linking ESG ratings to stock performance or better access to financing. Bloomberg recently reported that larger, older, and more profitable companies can more easily improve their ESG scores. This allows them to derive stock outperformance from these inherent characteristics, not the ESG scores themselves. Previous research often measured proxies like company size, age, and cash flow rather than true access to finance. The Bloomberg article also notes that the financial gains from ESG initiatives are often minimal, leading to a misleading boom in sustainability funds, ratings, and indexes.
The cost of addressing climate change is immense, with economic losses estimated at around USD 178 trillion over the next fifty years if unmitigated. For context, China's 2021 GDP was about USD 17 trillion. Additionally, up to USD 20 trillion in assets could be lost due to climate change. These economic losses translate into declines in productivity, job creation, standards of living, and overall well-being. Some analyses even predict a 50% GDP reduction between 2070 and 2090, underscoring the urgency of achieving net zero as part of fiduciary duty.
The financial cost of achieving the net-zero transition requires investing USD 275 trillion in physical assets for energy and land-use systems from 2021 to 2050. This means annual investments must increase by USD 3.5 trillion—60% more than what was invested in 2022. Given the USD 5.7 trillion allocated in 2021, an annual investment of USD 9.2 trillion is necessary, with most investments needed in the next five to ten years. Of this, private financial institutions may contribute up to USD 3.5 trillion annually, commercial banks USD 2–2.6 trillion, and asset managers, private equity, and venture capital funds may add up to USD 1.5 trillion.
A sustainable future encompasses more than just environmental considerations. The other pillars of sustainability—societal, governance, and prosperity—will also incur significant costs. These include building universal healthcare access, primary and secondary education, poverty alleviation, and community infrastructure and services. For example, cybercrime, a governance matter, poses a substantial financial burden, costing an estimated USD 10.5 trillion annually, with only about 10% of cases reported.
Creating a sustainable future requires reducing negative environmental and social impacts while increasing positive contributions. Despite progress, we've exceeded 6 out of 9 planetary boundaries, such as climate change and change in biosphere integrity, and face significant societal issues like human rights violations, existing slavery, and low trust levels globally. Investing in sustainability across all dimensions remains paramount.
However, as we discussed previously, investing in sustainability does not guarantee superior financial returns compared to non-sustainable investments. For example, Ørsted, a Danish energy company, saw a 25% drop in shares due to issues with its US offshore wind project, an inherently green project, due to rising interest rates, supply chain delays, and US tax credit negotiation problems.
Financing new sustainable projects can be achieved through various means, including equity, debt instruments, public funding, and public-private partnerships. However, recent studies suggest that our expectations of greeniums and equity outperformance may need to be adjusted. Future research may either reinforce these findings or provide new evidence to swing the debate back towards the existence of greeniums.
While the market seeks balance and debates greeniums and equity outperformance, the need to finance a sustainable future, such as achieving net-zero emissions, becomes increasingly urgent. The investment gap continues to widen. We may need a large-scale effort akin to the Marshall Plan, which provided USD 13 billion to rebuild Europe post-WWII. Given the current unsustainable debt levels in the US, it is clear that the US cannot finance a new Marshall Plan. But who could?
Despite ongoing mitigation efforts, achieving sustainability goals requires more action, risk-takers, and substantial financial resources. Meeting these challenges will involve collective efforts and innovative financing mechanisms. This debate is essential as it prepares us for an accelerated push to finance global goals, deadlines for which are rapidly approaching, to achieve a sustainable and prosperous future.
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