Clifford Chance: Sustainable finance and the role of technology
ESG issues are at the forefront of the political and board agenda as the world seeks to move to net-zero and recovers from the effects of COVID-19. Technology and innovation have a key role to play in accelerating the growth of the sustainable finance markets, which will provide the liquidity needed to make the transition.
Technology companies are making a difference by harnessing both raw and processed ESG data, and by exploring how distributed ledger technology might help to unlock further potential sources of liquidity. This liquidity may in turn be used for sustainable projects or to help the general development of companies making a positive environmental impact.
The data revolution
There has been exponential growth in the number of technology companies using ESG data in recent years. The explosion of ESG data is the result of, amongst other things:
more ESG data being published following the introduction of regulations such as the EU Non-Financial Reporting Directive;
greater demand from investors who themselves are subject to regulation such as the EU Sustainable Finance Disclosure Regulation;
new technologies such as artificial intelligence, machine learning, scraping (automatic extraction of data from websites) and new techniques for transforming unstructured data into structured data making it easier than ever to produce, collect, process and analyse ESG data; and
a business need for sustainable finance market actors to have access to good quality, reliable, easily comparable and easy to understand ESG data.
Unless an issuer can demonstrate that its ESG data is reliable, investors will be reluctant to invest in any of its sustainable financial products. Technology companies can use data to help issuers establish credibility in various ways - for example, where the market recognises that an issuer is using state-of-the-art technology to measure its carbon emissions, enabling it to reduce to a minimum the number of estimations in its calculation methodology. Similarly, if an issuer can provide satellite imagery to demonstrate the environmental impact of its investment (such as the number of trees planted per year), they are likely to build trust with green investors. ESG data can also be used by technology companies in other ways to support issuers. For example, if an issuer, with the help of data aggregators, can demonstrate that its key performance indicator scores are better than other companies in its industry, jurisdiction or among other companies with a similar market capitalisation, its sustainable finance products will be easier to market.
Distributed Ledger Technology
Data is not the only consideration when looking at the contribution of Fintech to the sustainable finance market. Distributed ledger technology (DLT) has the potential to transform how debt securities are issued, traded and settled, potentially breaking down barriers to entry, particularly for SMEs, and providing new sources of liquidity for issuers, which could then be used for green, social or sustainable projects.
Should initiatives such as the European Commission's pilot regime for market infrastructures for financial instruments based on DLT lead to the creation of a fully functioning and liquid market for digital securities, there is every chance that a market for "green" tokenised financial instruments would follow very quickly. Interest is growing in the potential of blockchain technology as a tool for sustainable financing. For example, the BIS Innovation Hub and Hong Kong Monetary Authority recently concluded Project Genesis, a green finance project to build prototype digital platforms using DLT. This aims to enable green bond issuance with greater access to retail investors and improved transparency on the use of proceeds, in real time on an app.
Although concerns have been raised about the negative environmental effects of the process for validating transactions on certain blockchain protocols such as Bitcoin and Ethereum, solutions to these issues are being developed such as the use of renewable energy to power energy intensive mining and alternatives to proof of work.
If you would like to read more about how data and DLT can accelerate sustainable finance, you can read the full article here.
Guest blog was written by Clifford Chance' Senior Associates Alexander Tollast and Laura Douglas and Puja Patel, Senior Associate Knowledge Lawyer.
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