The three regional loan trade associations are working on a global update of the green, social and sustainability-linked loan principles to align more closely with the bond market and beef up wording to reduce the risk of greenwashing.
The update by the London-based Loan Market Association, the Loan Syndications and Trading Association in New York and the Asia Pacific Loan Market Association is underway and is expected to take three to six months.
It will address recent trends in the sustainable finance market and will particularly focus on "supporting the integrity" of the rapidly growing sustainability-linked loan market amid a market-wide crackdown on greenwashing.
Proposals include tightening up guidance on “sleeping" or "sustainability-ready" SLLs, which do not have ESG characteristics when originated and rely on borrowers' pledges to add the key performance indicators (and the sustainability performance targets that are used to calibrate them) at a later date.
"The loan market is private but concerns about greenwashing, reputational risk and regulatory risk are similar to the bond market. That is why robust structures are equally important to the loan market," said Hannah Vanstone, senior associate director of legal at the LMA.
Lenders are starting to take a tougher line with borrowers and are using developments in the bond markets to increase the standards and level of ambition in the loan market, as SLLs have previously been regarded as less rigorous than their bond market equivalents.
The sustainability-linked format was pioneered in the loan market in 2017. The first Sustainability-Linked Loan Principles were published in March 2019 and revised in May 2021 to align them with the International Capital Market Association’s Sustainability-Linked Bond Principles.
The loan associations adopted ICMA’s tighter language around the selection of KPIs and SPTs at that time and also introduced external reviews of KPI reporting to strengthen the SLL product.
The prospect of further alignment with the bond market and closer cooperation between the associations is expected to bring greater sophistication to the loan market as scrutiny of banks’ financed emissions and balance sheet composition increases.
"ESG-linked loan syndications were fairly straightforward a few years ago. Banks are understandably now getting much more diligent in responding to the ESG KPIs and targets that have been set and more are starting to benchmark with what they have seen in the bond market," said Arthur Krebbers, head of corporate climate and ESG capital markets at NatWest.
A senior loan banker agreed: “There’s a general improvement of standards; all banks have sustainability teams now and everyone’s looking at greenwashing.”
Sleeping SLLs
The use of “sleeping SLLs” or “sustainability-ready” structures that rely on borrowers’ vows to insert KPIs and SPTs at a later date is making banks nervous, along with the claims that companies are making about the deals and the way that they are being marketed.
The LMA began to address the issue in one of three papers published in mid-July. The paper focused on timing issues around introducing sustainability into transactions as well as the materiality and ambition of KPI targets. It is planning to go further in the update.
"What we'd say about sleeping SLLs is extra care is needed that there are robust checks in place. It should not just be a given that, if you put that mechanism in, it will then just be rubber-stamped. There should be the same level of diligence in relation to KPI selection and SPT calibration," Vanstone said.
Lenders are advising borrowers to be more careful about the claims they are making and not to market deals as SLLs until the loans meet the principles, and the KPIs and SPTs have been put in place.
"Saying you've got a sustainability-linked loan should be about having an ambitious sustainability strategy in place and then aligning the finance to the strategy rather than the other way around," Vanstone said.
While sleeping SLLs are popular with US borrowers and lenders, several banks believe that increasing regulatory scrutiny around greenwashing means these deals will be phased out as banks' legal and risk departments' attempt to understand the ESG claims on their balance sheets.
"We are moving away from some of the excesses we saw a few years ago such as sustainability-ready structures that import KPIs without any lender consultation in some cases," Krebbers said.