(The author is a Reuters market analyst. The views expressed
are his own.)
By Gerard Wynn
LONDON, April 26 Europe needs to engage the
multi-trillion-dollar bond market in financing renewable energy
projects, but bonds can't altogether replace bank loans, which
are contracting sharply.
European Union countries lead the world in targets to deploy
wind, solar, bioenergy in power generation, but meeting these is
another matter following sharp falls in bank lending, the
traditional mainstay of energy project finance.
Private bank lending to European wind power projects, for
example, is now barely a third of peak levels in 2008, according
to Thomson Reuters Project Finance International data.
That's the worst bank project finance market for two
decades, say developers, and doesn't help EU countries that are
already way behind their targets.
For example, Britain is supplying about 3 percent of all
energy from renewable sources versus a target of 15 percent by
To fund projects, a growing argument is that institutional
investors and bond markets must be engaged in project finance,
perhaps using public sector debt to boost project credit
Bank lending will remain, not least because banks find
project finance a good business given low default rates.
It's more a question of finding supplements than
alternatives, and there's no doubt that capital markets must
play a bigger part.
Bank lending still accounts for the vast majority of project
On the supply side, that's partly because of the small size
of many projects, below $100 million, may make the costs of
acquiring a credit rating and of marketing bonds prohibitive.
In addition, some developers are concerned that bondholders
may be less supportive than bankers when things go wrong. When
bonds are downgraded, some institutional investors typically
sell to vulture funds, whose agenda can be to use legal advice
to grab assets.
On the demand side, meanwhile, institutional investors
particularly in Europe are reluctant to buy sub-investment grade
bonds because of the implied risk.
That rules out most renewable energy.
Rating agencies list reasons why they can't rate green
energy projects as investment grade, including the lack of
stable regulatory support (constant chopping of support levels),
a lack of strong developers (such as utilities with credit
ratings) and inadequate data.
Regarding the latter, a case in point is a European bond
issued by the unfortunately named Breeze Finance,
which was one of the few wind farms to win an investment grade
rating but was then downgraded to junk because its site had less
wind than expected.
That emphasises the need for sector-specific expertise to
assess risk, which European investors don't tend to have and, in
a Catch 22, are unlikely to develop until more projects become
More experienced teams with sector-specific professionals
could analyse risks and buy sub-investment grade assets with
That process could be helped as investors become
increasingly wary of climate risk - the chance that climate
change may be worse than feared and lead to disorderly policy
changes that could damage fossil fuel assets. Investing in
renewable energy projects would protect against such a risk.
There are powerful reasons to engage bond markets, which
presently only account for about 5 percent by value of European
renewable energy project finance.
The sharp drop in loans partly reflects banks' bruised
balance sheets after the global financial crisis and regulatory
reforms that are forcing them to put aside more capital against
bad debt, raising their long-term lending costs.
An argument runs that institutional investors are better
suited, anyway, to fund projects with a 30 to 40 year term,
given that pension funds and insurance companies need
predictable cash flows over such timescales.
EU leaders have cottoned on and are trying to draw in bond
markets. One route is through export credit agencies, which
provide public loans or guarantees to support equipment
In October, for example, Denmark's export credit agency
guaranteed 10 billion Danish crowns ($1.8 billion) worth of debt
finance made available by the Danish pension fund,
PensionDanmark, primarily for wind projects.
An alternative is for governments to guarantee directly some
level of debt, effectively reducing risk and so enticing nervous
Britain's Green Investment Bank (GIB) launches this year and
is expected to guarantee project debt or make loans on generous
terms as well as take equity stakes in projects, initially
targeting offshore wind, waste and energy efficiency.
The GIB marks a shift from more ad hoc grants and lending,
channelling funds through a permanent, arms-length agency, which
will also be able to borrow on capital markets from 2015,
providing another route in for institutional investors.
In time, bank lending will return from the perfect storm of
regulation, downgrades and euro zone instability to support
ideally a deeper project finance market with more players.
(editing by Jane Baird)