Repo market plays more active role in sustainable finance, says ICMA
26 October 2022 Switzerland
Image: Imillian/stock.adobe.com
The repo market is starting to play a more active role in sustainable finance, according to the International Capital Market Association (ICMA).
ICMA’s Repo & Sustainability Taskforce has published a paper reflecting on recent market developments — which has seen firms developing new sustainability-related products in the repo space to transition to a sustainable economy — and explores the different intersections between repo and sustainable finance.
The “Observations and categorisation relating to sustainability in the repo market” report follows the market consultation undertaken by ICMA’s European Repo and Collateral Council (ERCC) in 2021. This consultation served as a starting point for promoting a broader debate in the repo community around sustainability issues and steps to explore existing opportunities and potential risks in this area.
The report viewed sustainability in the repo market from two perspectives; wider sustainability considerations in the existing repo business, and specific sustainability-related repo products that have emerged in the market.
In addition, the report includes a number of observations on current market practice which could be used as a basis for developing future guidance.
According to the report, trading volume of sustainable collateral is relatively low due to the “sizeable gap” in supply and demand for sustainable assets, the impact of buy-and-hold, and the absence of direct regulatory requirements. As the issuance of sustainable assets continues to expand and regulators take measures to encourage sustainable assets, this could change.
ICMA continues to advise that environmental, social and governance (ESG) risks should be priced into the collateral — which, typically, is not currently the case. The report highlights that it is important to consider the potential adverse impact on non-sustainable collateral going forward.
Similar to market participants who steer their repo trading towards collateral that meets certain ESG criteria, there are market participants who are selective of the counterparties they trade with. This selection process may come through only considering pure plays as counterparties, or it could be based on the assessment of their counterparties’ ESG credentials.
However, despite the counterparties’ ESG credentials, this approach faces limitations as the proceeds of the trade are not guaranteed to be invested for sustainable purposes.
The report pinpoints the difficulty of standardising sustainability criteria for these ratings across the industry, given that methodology and source of ESG data vary between data providers.
Despite this hurdle, there are a number of ways in which repo can potentially contribute towards an overall sustainable finance strategy. The report concludes that an increasing number of firms are starting to integrate sustainability considerations into their repo businesses via a differentiated treatment of collateral and counterparties.
However, the large capital flows seeking to support green and sustainable activities are catalysing the development of more innovative products, ICMA reports. Although ICMA sees some common features emerging, the organisation says that the market is still at an early stage with only limited trading volume at the current time.
ICMA’s Repo & Sustainability Taskforce has published a paper reflecting on recent market developments — which has seen firms developing new sustainability-related products in the repo space to transition to a sustainable economy — and explores the different intersections between repo and sustainable finance.
The “Observations and categorisation relating to sustainability in the repo market” report follows the market consultation undertaken by ICMA’s European Repo and Collateral Council (ERCC) in 2021. This consultation served as a starting point for promoting a broader debate in the repo community around sustainability issues and steps to explore existing opportunities and potential risks in this area.
The report viewed sustainability in the repo market from two perspectives; wider sustainability considerations in the existing repo business, and specific sustainability-related repo products that have emerged in the market.
In addition, the report includes a number of observations on current market practice which could be used as a basis for developing future guidance.
According to the report, trading volume of sustainable collateral is relatively low due to the “sizeable gap” in supply and demand for sustainable assets, the impact of buy-and-hold, and the absence of direct regulatory requirements. As the issuance of sustainable assets continues to expand and regulators take measures to encourage sustainable assets, this could change.
ICMA continues to advise that environmental, social and governance (ESG) risks should be priced into the collateral — which, typically, is not currently the case. The report highlights that it is important to consider the potential adverse impact on non-sustainable collateral going forward.
Similar to market participants who steer their repo trading towards collateral that meets certain ESG criteria, there are market participants who are selective of the counterparties they trade with. This selection process may come through only considering pure plays as counterparties, or it could be based on the assessment of their counterparties’ ESG credentials.
However, despite the counterparties’ ESG credentials, this approach faces limitations as the proceeds of the trade are not guaranteed to be invested for sustainable purposes.
The report pinpoints the difficulty of standardising sustainability criteria for these ratings across the industry, given that methodology and source of ESG data vary between data providers.
Despite this hurdle, there are a number of ways in which repo can potentially contribute towards an overall sustainable finance strategy. The report concludes that an increasing number of firms are starting to integrate sustainability considerations into their repo businesses via a differentiated treatment of collateral and counterparties.
However, the large capital flows seeking to support green and sustainable activities are catalysing the development of more innovative products, ICMA reports. Although ICMA sees some common features emerging, the organisation says that the market is still at an early stage with only limited trading volume at the current time.
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