Decarbonizing the Future: An Insight into Transition Finance
Decarbonizing the Future: An Insight into Transition Finance
Exploring the Role of Transition Finance in Driving a Low-Carbon Economy
Hi Helixers,
Transition finance is an emerging field focused on financing the shift to a low-carbon economy. Helix’s market research report provides valuable insights into the current state and outlook of transition finance.
What is Transition Finance?
Transition finance provides capital to polluting entities seeking to reduce their carbon emissions and environmental impact. It helps high-emitting companies and sectors decarbonize their operations and business models.
Unlike green finance, which funds renewable energy and other climate solutions, transition finance targets more challenging sectors that face difficulties in reducing emissions, such as manufacturing, construction, building materials, transportation, and agriculture.
Current State of Transition Finance
The transition finance market was estimated at around $400 billion in 2023. Bonds and loans are the predominant instruments, with sustainable-linked variations gaining traction.
There are a few key reasons why transition finance is not as well-known as green finance among the public:
1. New and evolving concept
Transition finance is a new idea that has only emerged and gained traction over the last 5-10 years. Green finance has been around for longer, so there is greater awareness and familiarity with it.
2. Narrower scope
Green finance funds renewable energy, energy efficiency, green buildings etc. Transition finance targets the harder-to-decarbonize sectors, so it has a narrower scope that is more complex. This makes it less intuitive and accessible as a concept.
3. Lack of branding and marketing
Green finance is easily branded around things like solar, wind or EVs which people can visualize. Transition finance lacks that kind of accessible branding and has not been effectively promoted to the mainstream.
4. Complexity of transition pathways
The transition pathways for sectors like steel, cement, aviation etc. are complex and technical. This makes transition finance seem abstract and challenging to communicate simply.
5. Lack of standards and data
Clear standards, disclosure frameworks and impact data are still evolving in transition finance. This makes it harder to understand and evaluate for the public compared to green finance.
6. Nascency of the market
The market for transition finance instruments is new and lacks scale. By contrast, green bonds and other green finance tools are now a sizeable and growing market.
Transition finance needs better branding, communication, and mainstream promotion to raise awareness among the public and investors. As the market matures, this may gradually improve.
Europe currently leads in transition finance initiatives, but other regions are developing frameworks. There is a need for more coordination and standardization globally.
The lack of consistent definitions and reporting standards poses risks like greenwashing. Clear metrics and transition pathways for companies are essential.
Key sectors for investment include renewable energy, energy efficiency, transportation, agriculture, buildings, and industrial heat decarbonization.
Growth Outlook and Opportunities
The transition finance market is projected to grow significantly by 2030, driven by regulation, investor pressure and technology advances that improve the viability of low-carbon solutions.
Here are some key factors that could shape the future evolution of transition finance, along with potential challenges:
Policy frameworks - Governments need to provide supportive regulations, incentives, and guidelines to enable transition finance markets. Lack of policy coordination across jurisdictions poses challenges.
Corporate transition plans - Rigorous, science-based corporate transition plans are crucial to provide confidence in transition activities. Pressure is mounting on companies, but capacity issues persist.
Disclosure and metrics - Clear reporting standards and consistent metrics are needed to track emissions reductions and avoid greenwashing. These are still in development.
Verification - Independent verification of transition finance credentials will be essential. But assessing ambition and additionality is complex.
New instruments - Innovative financial instruments like sustainability-linked bonds/loans can accelerate capital flows. But skepticism exists around effectiveness.
Just transition - Social implications like job losses in high-emitting sectors require managed transition plans. This adds complexity for investors.
Technology viability - Real-world scalability and costs for low-carbon solutions in hard-to-abate sectors continue to evolve. This creates uncertainty.
Stranded asset risks - Early phase-outs of high-emitting assets pose risks of stranded assets. Requires careful analysis by financiers and policymakers.
Competing priorities - Tensions between development needs, energy security and emissions cuts may emerge, especially in emerging markets.
Coordinating between multiple stakeholders to address these interlinked challenges will shape the trajectory of the transition finance market.
Financial institutions can help high-emitting companies transition rather than divesting. More capital is needed for credible transition activities across all sectors.
Developing rigorous corporate transition plans will be crucial to access quality financing. Policymaker support can accelerate this through appropriate frameworks.
The importance of transition finance in meeting climate goals and providing investment opportunities is not clearly laid out in general. Realizing its potential requires coordinated efforts from regulators, businesses, and investors, which is exactly where Helix is working.
Here are some ways that high-emitting companies can both contribute to and benefit from the transition finance market:
Develop transition plans: Companies should create comprehensive, science-based plans to decarbonize their operations and value chains. This signals commitment and enables access to transition finance.
Issue transition bonds/loans: Corporates from hard-to-abate sectors can issue transition bonds or loans tied to meeting emissions reduction targets. This raises capital for transition projects.
Engage investors: Proactively communicating transition strategies and plans to investors can help secure their support and attract financing.
Set intensity targets: Pledging reduced emissions intensity per unit of output makes targets more resilient to production changes. This appeals to financiers.
Utilize carbon credits: Offsetting difficult-to-eliminate emissions via high-quality carbon credits can complement in-house abatement efforts. Enhances attractiveness for capital.
Improve disclosure: Detailed, transparent disclosures on transition risk exposures and mitigation strategies enable access to better financing terms.
Leverage policy incentives: Companies should maximize use of government incentives for emission reduction investments to optimize internal capital allocation.
Pilot innovative technologies: Being early adopters for emerging low-carbon technologies provides valuable learning and evidence for both corporations and investors.
Overall, high-emitting companies should view themselves as partners in the transition finance ecosystem. Their proactive strategies and commitments can expand the capital pool and attract preferential financing for their decarbonization journeys.
Here are some of the key financial instruments being utilized in transition finance:
Transition bonds: Bonds whose proceeds finance activities that reduce emissions in hard-to-abate sectors.
Sustainability-linked bonds: Bond returns linked to achieving sustainability targets like emissions reductions.
Transition loans: Loans tied to use of funds for decarbonization projects and initiatives.
Sustainability-linked loans: Loan terms tied to meeting predefined emissions or clean energy targets.
Carbon market instruments: Carbon credits, offsets, and allowances enable trading emissions reduction obligations.
Climate-aligned equity: Listed equity in companies with credible emissions reduction plans.
Climate-themed funds: Funds investing in activities that support low-carbon transition.
Green securitization: Securitization of portfolios like electric vehicle loans or solar leases.
Insurance: Climate risk insurance products for protection against transition hazards.
Grants & incentives: Public funding to catalyze corporate transition investments.
Carbon contracts for difference: Contracts paying out if carbon price is below an agreed floor, supporting transition projects.
The landscape is evolving quickly. But broadly, transition finance leverages both sustainability-linked instruments and funding tied directly to use-of-proceeds for decarbonization. Effective policy and regulation will also be key to driving scale.
Here are some examples of decarbonization projects that cement companies can undertake to reduce their emissions:
Switching to lower-carbon fuel sources: Transitioning kilns to run on biomass, hydrogen, or electricity instead of coal.
Improving energy efficiency: Upgrading equipment, optimizing processes, and recovering waste heat to lower energy use and emissions.
Adopting carbon capture technologies: Installing carbon capture systems at cement plants to capture CO2 from flue gases.
Developing low-carbon cement formulas: Innovating new cement chemistries that require less clinker and thereby emit less CO2.
Using alternative raw materials: Replacing clinker with increased shares of fly ash or blast furnace slag to lower CO2 from limestone calcination.
Investing in renewable electricity: Installing onsite wind turbines or solar PV generation to power cement plants with clean energy.
Electrifying operations: Switching to electric vehicles for in-plant logistics and replacing combustion-powered systems with electric alternatives.
Improving logistics efficiency: Optimising supply chains and transportation to reduce emissions from distribution.
Offsetting residual emissions: Using high-quality carbon credits to offset remaining hard-to-abate emissions.
Piloting carbon capture technologies: Testing and deploying innovative direct air capture or mineralization solutions at scale.
Developing low-carbon cement products: Investing in R&D and piloting of novel product formulations that require less clinker.
The most impactful interventions focus on energy efficiency, fuel switching, clinker substitution, and innovative low-carbon cements. Robust transition planning and financing access will be key for cement companies to undertake such capital-intensive decarbonization initiatives.
Here are some potential decarbonization projects and initiatives for steel companies to reduce emissions:
Improving energy efficiency: Upgrading equipment, optimizing processes, and recovering waste heat to reduce energy use and emissions.
Adopting scrap-based production: Increasing the use of scrap steel feedstock in electric arc furnaces to lower reliance on iron ore.
Developing hydrogen-based steelmaking: Using hydrogen instead of coking coal to reduce iron ore to iron in direct reduced iron processes.
Installing carbon capture systems: Capturing process emissions from blast furnaces and basic oxygen furnaces.
Adopting electrolysis-based processes: Using renewable electricity to electrolyze iron ore into iron and oxygen gas.
Piloting innovative reduction processes: Testing breakthrough technologies like molten oxide electrolysis to produce low-carbon steel.
Increasing renewable energy procurement: Buying larger shares of renewable power to reduce the carbon footprint of operations.
Improving logistics efficiency: Optimising supply chains and transportation to cut emissions from distribution.
Exploring circular economy opportunities: Increasing scrap steel use, component re-use, and recovery of by-products.
Offsetting residual emissions: Using high-quality carbon credits to offset remaining hard-to-abate emissions.
Developing low-carbon steel products: Investing in R&D for products like green steel that use hydrogen or electrolysis instead of coking coal.
The most impactful measures are boosting scrap utilization, scaling hydrogen-based steelmaking, and deploying carbon capture systems. Policy incentives, public co-funding, and transition finance will be essential to enable large-scale capital investment by steel producers.
Here are some key decarbonization initiatives and projects that chemical companies can undertake:
Improving energy efficiency: Upgrading equipment, optimizing processes, and recovering waste heat to reduce energy use.
Switching to renewable feedstocks: Using bio-based or recycled materials instead of fossil fuel feedstocks to lower emissions.
Adopting renewable energy: Procuring larger shares of solar, wind, or hydropower to run operations.
Electrifying processes: Switching from combustion heating to electric heating powered by renewable electricity.
Deploying carbon capture systems: Installing carbon capture at large emissions sources like crackers and ammonia plants.
Improving logistics efficiency: Optimizing supply chains and transportation to cut emissions.
Investing in circular economy: Increased recycling, re-use, and recovery of by-products and waste.
Developing low-carbon products: Investing in R&D for products made via emissions-reducing processes.
Using carbon offsets: Utilizing high-quality offsets for residual hard-to-abate emissions.
Exploring hydrogen opportunities: Piloting use of blue or green hydrogen as a feedstock or fuel source.
Advancing electrochemicals: Developing innovative electrochemical processes powered by renewable energy.
Partnering on CCS infrastructure: Collaborating on shared carbon capture and storage transport and sequestration infrastructure.
The most impactful measures are improving efficiency, adopting low-carbon energy sources, electrifying heat, and deploying carbon capture for process emissions. Credible transition planning and financing will be essential for chemical companies to undertake major capital projects.
Here are some key decarbonization initiatives manufacturing companies can undertake:
Improving energy efficiency: Upgrading equipment, optimizing processes, and implementing energy management systems to reduce energy use.
Electrifying operations: Switching from fossil fuel-powered systems like boilers and furnaces to electric alternatives powered by renewable energy.
Deploying onsite renewables: Installing rooftop solar, behind-the-meter wind, or other distributed renewable energy generation.
Procuring renewable energy: Entering power purchase agreements or buying renewable energy certificates to green the grid-sourced electricity supply.
Improving logistics efficiency: Optimizing supply chains and transportation to reduce distribution emissions.
Investing in the circular economy: Increasing recycling, remanufacturing, and recovery of materials and by-products.
Adopting low-carbon inputs: Substituting carbon-intensive raw materials and feedstocks with low-carbon alternatives.
Exploring hydrogen opportunities: Using green hydrogen for high-temperature heating needs to replace natural gas.
Piloting breakthrough technologies: Testing solutions like 3D printing or digital twin simulations to enable emissions reductions.
Offsetting residual emissions: Using high-quality carbon offsets for remaining hard-to-eliminate emissions.
Developing low-carbon products: Investing in R&D and new product development focused on reducing end-use emissions.
The most impactful measures are electrification, renewable energy procurement, energy efficiency, and material or feedstock substitution. Policy incentives and transition finance will enable manufacturing companies to fund large-scale capital projects required to deeply decarbonize.