Environmental, social, and governance (ESG) is no longer just a buzzword. Nor is ESG rising to the top of the C-suite list of priorities because of pressure from governments, regulators, shareholders or consumers. That is part of the story but according to Andy Schmidt, vice president and global industry lead for banking at CGI, it makes business sense to try and optimise ESG strategy.

He tells RBI: “I look at some of the leaders that I follow, such as Bank of Montreal. The bank’s sustainability report makes very clear the number of loans, the number of clients, the number of projects the bank is working on in the sustainability space.”

But even with banks Schmidt considers to be leading the way, much remains to be done to tweak and fine-tune ESG strategy to maximise its potential wider benefits.

“One of the questions I asked BMO was ‘do you have a special set of underwriting criteria that sets sustainability loans apart from regular loans’. The short answer was no. The bank just looks at it like any other sector and it the lending is looked at as a potential business opportunity. And more and more banks will look at sustainable lending as a business opportunity.”

They do, after all, have a number of tools at their disposal including sustainable loans, debt mechanisms, and investment vehicles that encourage stakeholders to address climate change. Schmidt references as an example, green bonds, first issued in 2007.The market was quiet until taking off in 2014. For each year since, the market has closed at record all-time highs.

GlobalData’s 2022 ESG Strategy Survey notes that 66% of businesses in the banking industry believe the Covid-19 pandemic has acted as a catalyst for increased focus and, more importantly, action on ESG issues. Industry participants already rated the impact of ESG greater than that of “increased regulation” and “digital transformation” –both of which are key themes in the financial services industry.

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In other areas of the banking sector, such as wealth management, interest in ESG is booming. Some 82% of wealth managers expect the proportion of financial client assets allocated to ESG investments to increase over the next 12 months.

ESG investments: no longer just an add-on or ‘nice to have

While there are regional differences, this means ESG investments can no longer be regarded as an add-on or “nice-to-have.” Instead, they should form an integral part of a wealth manager’s service proposition, given the strong demand forecast

Nor is it the case that concern for ESG strategy is dominated by just banks in Europe and North America-it encompasses the emerging markets.

ESG (particularly the environmental component) is expected to gain more traction in the developing world. According to a study by Credit Suisse, Generation Z and millennial consumers in China (and other emerging economies) are more environmentally conscious than their peers in the developed world. In part, this can be attributed to the fact that they have been more exposed to the effects of global warming. Regardless of the reasons, this means wealth managers in these markets will have to put greater emphasis on environmental investment practices.

Green credentials to impact corporate loans pricing?

Looking ahead, Schmidt believes that pricing on the corporate lending side will be impacted by the green credentials or otherwise of the project in question.

“We already see preferential pricing for loans on the consumer side, such as an auto loan at a discounted rate if buying a green vehicle.”

He argues that if a bank is lending to a firm installing new plant that is sustainable and energy efficient, there is potential to offer a discounted rate. On the other hand, if a loan is to fund a project that will create a great deal of pollution, the pricing of that loan may be more expensive or the covenants more challenging.

“This really would be no different to what I was doing as a commercial lender some 20 years ago. One would be looking at the attributes of the project as well as the credit quality of the customer.”

On the product side, Schmidt highlights the success of green financing and the business case for sustainable product innovation.

For example, the rise in green financing includes the evolution from green bonds to green loans. A green bond is a fixed-income instrument earmarked specifically to raise money for climate and environmental projectsHe notes that the green bond market has experienced exponential growth over the past decade. In December 2020, it reached its most significant milestone yet—$1trn in cumulative issuance since its inception in 2007.

“While the very first green bond was issued in 2007, it wasn’t until 2014 that the market took off. For each year since, the market has closed at record all-time highs.”

Schmidt highlights the positive role banks can play when it comes to businesses advancing their climate change pledges and reducing greenhouse emissions. Banks could also follow CGI’s lead in carefully assessing the environmental impact of its supply chain strategy. And not just more sustainable, but also more traceable and transparent.

Banks are under pressure to evaluate their supply chain financing and letter of credit requirements and processes and accelerate digitisation, eliminating paper-bound processes as fast as they can through the latest technology. At the same time, they need to be able to trace and account for the impact that these supply chains have on the environment

CGI itself committed to net zero by 2030 in a statement to the market and many of its geographies will hit the goal sooner says Schmidt.

‘Banking is in a good place’

CGI’s research highlights that banks are not just performing well relative to the global average in terms of awareness and focus on sustainability. Indeed, banks are ahead of many other major industry verticals in respect of improving their sustainability strategies.

Schmidt concludes: “Banks have digitised so many of their operations. Their buildings tend to be energy efficient and LEED certified. Banks are in a good place and enjoy a unique opportunity and hold a unique advantage to use their capital to shape the direction of the market.”

If indeed Schmidt is correct in his assessment of the outstanding business opportunity awaits the banking sector, it will be fascinating to observe which banks emerge as the winners.

RBI editor Douglas Blakey speaks with Andy Schmidt, vice president and global industry lead for banking at CGI