Developing a minimum viable product for sustainable commercial paper

24 Aug 2022 . 3 min read

If you’d like to get a sense of where the sustainable bond markets were around seven years ago, you could do worse than looking at the commercial paper (CP) markets. A group of European early movers have issued sustainable CP or set up corresponding frameworks (24 by our count), yet there is neither clear guidance for market participants nor an apparent “greenium” in issuance levels.

1. Sustainable CP market: sustainable CP an extension of ESG-labelled debt

So, what do we know about this market? First of all, it’s predominantly driven by organisations that already have ESG-labelled term debt: 95% of issuers in our sustainable CP sample have also issued green or sustainability-linked public bonds. They are therefore looking to extend ESG features across their capital structure.

2. Sustainable CP market: UoP preferred format

Secondly, more often than not, issuers opt for ‘use of proceeds’ (UoP) sustainable CP (see chart 1): 70% of programmes in our data set are of this format. This is unsurprising perhaps, noting that most of the issuers are utilities (38%), real estate investment trusts (25%) or banks (25%) – all sectors that generally lean towards UoP in the term debt market.

While this UoP CP structure is quite straightforward to understand (basically it’s just a very short-dated green bond), it can be more complex to manage. Typical considerations include: how often do you report on your green CP issuance and associated green projects, and do you do this at instrument or portfolio level? And how does your green CP relate to your green bonds?

3. Sustainable CP market: no hard penalties if targets of sustainable CP aren’t met

The other feasible structures are typically less complex to oversee. A sustainability target-linked CP promises investors that the issuer will report back on a near-term ESG target (typically two to three years in the future), and that their liquidity support will help the firm on its journey towards this target. A sustainability commitment CP is linked to the issuer maintaining, on an ongoing basis, a particular sustainability rating or benchmark (such as top X% of its sector as measured by an ESG rating agency). Neither currently contains any “hard” penalties if such targets aren’t met – albeit the reputational implications are considered to be meaningful by many issuers.

4. Sustainable CP market: SPOs are rare so far

Some of the issuers have opted for a second-party opinion. In our sample, 5 have external reviews either specifically focused on CP or debt instrument-agnostic opinions that include a reference to this market. We would expect this number to grow as scrutiny on the asset class intensifies.

5. Sustainable CP market: ESG components typically added to existing CP programmes

And finally, those that issued already enjoyed strong access to the CP market – with the ESG components typically being added to existing programmes. The borrower is either A1 (21%) or A2 (29%) rated (Standard & Poor's short-term ratings), thereby being considered amongst the safest short-term investments.

6. Sustainable CP market: market volatilities will raise appeal of CP with ESG features

This initial flurry of activity does of course not guarantee that sustainable CP will evolve as rapidly as the bond market has. There are, however, reasons to be optimistic. In an era of increased economic and capital market volatility, access to short-term markets has grown in importance – also raising the appeal of adding ESG components to differentiate your CP programme. Money market funds with ESG features are attracting meaningful inflows. And with the International Capital Market Association (ICMA) having set-up a Sustainable CP taskforce – with NatWest as a member – it is likely that more “official” guidance will follow.

Activity in the CP market happens at a brisk pace. Let’s hope this also holds true for ESG adoption.

Chart 1: Sustainable CP programmes by sustainability structure

Chart 2: Sustainable CP programmes by sector

Chart 3: Sustainable CP programmes by region

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