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Green Finance: The Road Ahead

 4 min read / 

The green finance market is expanding tremendously, and financial institutions seek to leverage the new opportunities from the transition to a carbon-neutral economy. Climate change is altering the environment in which companies operate, but also offers great investment opportunities. In addition, there are two main categories of risk that have been recently considered: (1) physical risks such as flooding and storms; and (2) transition risks such as climate policy measures and carbon-neutral technologies. Green finance has emerged and gained in popularity especially after the Paris Agreement. Despite the positive impact that such a development entails, there is a wide range of risks associated with green investment products.

Trends

Total new investment in renewable energy grew from $72.7bn in 2005 to $241.6bn in 2016. Only China and India alone are a $4trn opportunity for the (sustainable) energy sector. The current expansion in the green finance market seems to be driven by profitable investment opportunities. Furthermore, environment, social and corporate governance factors became a very important part of the business plan and marketing strategies of major companies and institutions. Asset management entities are openly willing to contribute to the Paris Agreement 2015 climate goals by closely tracking decarburization of their portfolios and disclosing their climate impact.

Risks

Technological developments and innovations in financial products have proved to cause bubbles – tulipmania, the dotcom bubble, ‘Railway Mania’ and the 2007-8  financial crisis, just to name a few. The internet revolution in the 1990s drove the prices of the US stock market index to unimaginable heights. The NASDAQ Composite index peaked in 2000 and fell almost 80% in the upcoming 30 months.

More surprisingly, small companies changed their names to “dotcom” between 1998 and 1999, which produced 74% cumulative average return (CAR) for the 10 days surrounding the announcement day. The crash wiped out the savings of many individual investors, who bought equities during the run-up and the collapse of the bubble. Some researchers document that sophisticated asset management companies actively bought internet stocks during the run-up, but reversed their investment strategies at the beginning of 2000, which drove the collapse (Griffin, Harris, Shu and Topaloglu, 2011).

The energy transition may cause a similar bubble. As investors allocate their capital to new technologies and (un)labelled green bonds, financial instruments may become overvalued. The competition among green bond investors increased exponentially during the last 2 years. At the moment, investors who have a mandate to invest in green bonds and want to gain exposure to certain parts of the world have to pay more than a similar conventional bond. However, such a relationship does not hold for all green bonds, so active management adds value without a doubt.

Reputation Damage

To date, the Green Bond Principles (GBP) remain vague and unclear in certain cases. The financial markets have observed several cases of controversial allocation of resources to “green” projects – a kind of behaviour also known as ‘greenwashing’. Although the term is not new, it became more popular in the recent f years due to the increased demand for environmentally friendly (financial) products.

For instance, a European oil company issued a bond to finance energy-efficiency upgrades of its refineries. As a response, major bond index providers such as Bloomberg Barclays MSCI excluded the oil company’s green bond from Bloomberg listings. Another good example is a European Union Member State that openly opposed the implementation of EU Climate and Energy policies has issued a green bond. Allocating resources to small green projects, while continuing to increase investments in large fossil fuel projects is something both issuers and investors should be careful of.

Conclusion

It is important that climate risks are identified and mitigated appropriately by encouraging investors to allocate resources to green financial products. Financial institutions and individual investors should be careful and consider all available data, as either group may end up with a set of asset bubbles.

One could remember overpriced assets could trigger a crisis that impacts various industries. More importantly, considering the (green) label of an asset (for example, the Climate Bond Initiative certification) and second party opinion could prevent one from ending up with “greenwashing” assets and risk their reputation. Nevertheless, green investments – especially green bonds – would remain a powerful tool in the hands of investors to help mitigate climate change risks.

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America

An Update on Trumptopia: What’s Going on in the USA?

 5 min read / 

Whiskey Tango Foxtrot (WTF)

This 2016 movie, produced by and starring Tina Fey, is based on a book that was written as a memoir by the main character, Kim Barker. It follows a period of three years between 2003 and 2006 – it was initially supposed to be a three-month assignment – when Kim takes an assignment to be a war reporter in Afghanistan.

The premise of the movie is that one’s perspective shifts to adapt to the circumstances, however bizarre, in the manner of the proverbial frog in increasingly hot water. Kim exits before she is boiled, but only just. The most poignant moment in the movie (there are not that many – the emotional tone is mostly flat), is when Kim returns home to visit a marine who lost his legs to an IED in Helmand Province. She had been told by a fellow reporter that the marine’s assignment to Helmand resulted from a segment she reported where he discussed his habit of keeping his weapon unloaded. He had greater fear of an accidental discharge than of an engagement with the enemy.

Barker felt guilty and wanted to give him the opportunity to reproach her. His response was not to blame her at all: “You embrace the suck. You move the f**k forward. What other choice do we have?” He gives her a brief history lesson on the murky issue of causation of the war in Afghanistan and the Middle East.

It is a telling lesson on the complexity of the human condition, people’s tendency to overestimate the magnitude of their own causal contribution to world events and a reminder that there are fewer easy answers than might be desirable.

Fire and Fury

The recent book by Michael Wolff is an excellent read not because it reveals anything the reader has not already heard or suspected, but rather as a sober chronicle of dysfunction and a reminder of what government should be about and what it should not be, but all too often is about.

There was drama in the LBJ administration. There was inappropriate behaviour; foul language; manipulation; ego. LBJ’s time as Vice President was a marked contrast to his stature as Master of the Senate. The transition to President in the wake of JFK’s assassination was remarkable. As the world watched, wondering how this would go, Johnson worked the levers of power to bring in a budget below the level of $100bn demanded by Harry Byrd, Chairman of the Senate Finance Committee as the price for releasing JFK’s tax cut bill that was holding up consideration of the Civil Rights Bill. LBJ continued to work his inside the ropes knowledge of the legislative process to get the Civil Rights Bill passed into law. This was American government at its best.

The picture Wolff presents is American government at its worst. The legislative initiatives that have been undertaken by the current administration are healthcare reform; tax reform; immigration reform. Healthcare struggled and failed; tax reform passed and immigration reform is caught up in the politics of funding the government.

The President’s approval ratings are in the doldrums; he is forced to deny the racism revealed by his vulgar language and he is fighting with his Chief of Staff via twitter. In the meantime, those whose deportation hangs on immigration reform live in fear of arrest and infrastructure reform is on hold.

Unified Field Theory

Steve Bannon, the early architect of the Trump administration policy (since ousted and discredited by the President) and the author of the President’s Inaugural Address, was widely considered to be a proponent of a comprehensive policy to take the country back – a kind of unified field theory. His premise was that the American people had spoken through the election of Donald Trump. His organizing philosophy was a robust ‘America First’ policy on trade; a very restrictive immigration policy (widely interpreted as White Nationalist and anti-Muslim) and generally tearing down the administrative state to restore power into the hands of the executive branch.

This political philosophy was well targeted to flatter the ego of the President. Wolff’s book reveals that the President does not read and rarely listens. His attention wanders quickly and the passage to his understanding is apparently a narrow window defined by short-burst images and soundbites frequently played out on his favourite cable news network, Fox News.

There could not be a sharper contrast to the skill set required to approach the long-term issue of, for example, infrastructure repair. There could not be a sharper contrast to the achievement marked by the Civil Rights Act. There is no unified field theory of human progress. It is about hard work, incremental steps and the occasional watershed victory. Bannon was short-lived.

How Hot is the Water Right Now?

Kim Barker refers in her book and in the movie to the concept of “Kabubble”, the world in which the reporters are analogized to frogs in boiling water. The need to keep the war top of the media’s mind at home requires ever more extreme assignments at increasing levels of risk to the reporters and their teams.

The US is currently living in its own Kabubble: Trumptopia, a land where hours of media coverage are devoted to discussions of whether the President used the word “shithole” or “shithouse” to describe certain countries whose populations are considered unsuitable for immigration by the President on the basis simply of their geography (and perhaps, coincidentally, the colour of their skin).

Senators sacrifice their credibility in the cause of loyalty to a President who never repays it. If the key issue is which word was used, the story has missed its mark. If the public wishes the coverage would end because, not surprisingly, it is tired of the noise, then the essence of Trumptopia is revealed: the use of the bizarre to distract from the appalling.

Heads are spinning, and the frog has only a little time left…

Keep reading |  5 min read

Europe

2018: A Bullish Year for Greece?

 4 min read / 

Greece Economy 2018

Two things of importance have recently occurred. The yield on Greek bonds has reached a new low (though, just in time to participate in a potential bear market) and the Syriza led government has enacted measures likely to secure the next tranche of euros. With the Greek economy heading towards achieving 2.5% growth YoY in 2018 and hopefully ending its Sisyphean 10-year cycle of bailouts this summer, the economy is starting to look ripe for foreign investment.

As Q4 2017 approached, things were starting to look up. Either because, as some have thought, after almost 10 years of crisis we’ve reached Greece-fatigue with comparatively lesser news coverage or because, as some notable commentators (such as Deutsche CEO John Cryan or American ambassador to Greece Geoffrey Pyatt) have argued, conditions are genuinely ameliorating.

With return linked to risk, the lowering of the Greek bond yield (which has fallen from more than 7% at the start of the year to 3.92% at the time of writing) is the market’s way of telling us that the outlook is improving.

Equity markets in Greece aren’t doing too shabbily either: Athens Composite Index (ASE: ATH) is up 32.24% at the time of writing, compared to last year. On one hand, it’s tempting to ignore the performance of the index. After all, since the shares have started trading again following the 2015 debacle, most of the companies included in the index – Greek banks, largely – had nowhere to go but up. On the other, reports on Greek industry are surprisingly positive, with the latest IHS PMI report on the region conveying high confidence in the sector and the ‘most marked growth in over nine and a half years’.

The reportage of the past few weeks has been centred on the possibility of Greece exiting its bailout successfully this August, on what it would take to do that and even what success might look like. This past Monday, amongst a furore of protests, the Syriza government moved to enact several fiscal and industrial reforms aimed at hopefully bringing Greece more in line with the criteria of its debtors (more here) in hopes of securing its next tranche of monies.

The vehemence of the protests (with some claiming new quorum rules on strikes are akin to slavery) seems to be inversely correlated with efficacy: Prime minister Tsipras and Finance minister Tsakalotos must surely be looking ahead to Monday the 22nd and up towards mitteleuropa in hope of approval. Whether this is a democratic stance to take is irrelevant, and with the party having a mandate to rule until 2019, they are surely gambling on a return to borrowing at European market levels and financial normalcy without too many stringent conditions. It’s a gamble, yes, but a politically expedient – and perhaps even an astute – one.

Greece offers a tempting arena for investment, but it will take more than access to the European purse to improve things, especially if SMEs and startups – surely an indicator of health in any economy – are to get off the ground. Gone are the days described in Michael Lewis’ Boomerang with its tableau of incognito meetings in hotels with tax collectors who were reprimanded for being too good at their jobs: taxation in Greece has become stringent enough to seriously affect entrepreneurs:

‘For an employee to receive over 2,000 euros net per month, their employer must pay more to the state – in taxes and contributions – than to the worker. When an employee collects 3,000 euros, their final cost to their employer each month is 7,127 euros, of which 4,134 euros goes to the state (58 percent of the total).’ Source

Even maritime activity, traditionally a staple of the Greek economy, is being affected by these strict taxation measures. Despite stirrings amongst Greece’s nascent venture capital community, Syriza-led Greece is hardly shaping up to be entrepreneur friendly and it may well be that we’re looking at an environment better suited to quick-witted, short-term speculators than investors hoping for long-term growth.

More than money is needed for the kind of recovery and environment beloved by investors.

The minotaur is still in the labyrinth, but perhaps 2018 may just turn bullish.

Keep reading |  4 min read

Brexit

Brexit Phase Two: EU-UK Trade Talks

 4 min read / 

What unites European political parties across the political spectrum is a demand that while Britain discusses its future with the EU, it adheres to the principle of freedom of movement throughout the phase two transitional period. This is together with all the other rules of EU membership, including compliance with decisions of the European Court of Justice (ECJ).

EU Solidarity

While Brussels conducts day to day negotiations, it will fall to rotating EU presidents to secure cohesion and solidarity among EU27 member states holding diverse agendas for the conduct of Brexit talks. For the next six months, this leadership task falls to Bulgaria. Romania – the EU’s fastest growing economy (in 2017) – takes on the role in January 2019 at what will be a critical time when Britain (finally) leaves the European Union.

On the 29th March next year, Britain will become a ‘third country’ putting its relationship with the EU on a par with Turkey subject to any refinements on single market entry or a ‘bespoke’ customs union granting limited rights for its financial services sector. Business confidence continues to focus on going concerns that without regulatory alignment with the EU, few benefits will be provided from Brexit. It lobbies for ‘frictionless’ trade, which effectively must keep it in line with single market rules for both goods and services.

Car manufacturers have constantly reminded government ministers of potential damage to supply lines by the imposition of trade barriers. They would assert that decades of foreign investment (FDI) in the UK car industry was made in good faith in the knowledge that Britain, with its flexible and liberalized economy, provided the best entry point for the more lucrative EU market. In fairness, other factors also played a part – not least that UK employment laws were less restrictive than in mainland Europe as a result of the Thatcher government’s reforms in the 1980s.

No Deal?

There is still a question whether Britain leaves next year without a deal. Although this looks unlikely, Michel Barnier’s team at the EU Commission prepares for this scenario – taking repeated threats from the hard Brexit camp at face value. Tracking progress for the shape of an eventual deal is not easy, but clues are already appearing. French President Macron’s visit to London on Thursday 18th January helped to re-invigorate the ‘Entent Cordiale’ which historically focused on European military defence cooperation. A renewed Calais Agreement to maintain a tight border on migration would also help to improve Franco-Anglo relations.

But on a post- Brexit trade agreement Macron stands firm in stating:

“If you want access to the single market – including financial services be – my guest. But you need to contribute to the budget and acknowledge European Jurisdiction. There will be no hypocrisy in this respect otherwise it would not work. It would destroy the single market.”

It is hard to see from this statement that the EU27 will weaken from this stance, or that France can be persuaded of a more pragmatic approach by other EU members.

However, this did not stop PM Theresa May from re-iterating her desire for a deep and special partnership with the EU: “I believe it should cover goods and services.” She went on to say “I think the city of London will continue to be a major global financial centre… That is an advantage not just for the UK, it’s actually good for Europe and good for the global financial system.”

Conclusion

In the coming months, understandably, Britain will seek to pick off different EU states to push forward its vision of future trade relations. It is unlikely this “divide-and-rule” strategy will ultimately succeed, and it may well delay the satisfactory outcome of negotiations within the agreed timeline. It is in the interest of both sides to hammer out a deal for the stability of the EU and UK economies.

Keep reading |  4 min read

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