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Voluntary Carbon Credits Bolster Green Bonds

Dennis Stone, business development director, and Jaap Veerman, director of escrow solutions, explain how voluntary carbon markets are joining compliance counterparts to offer investors new ways to boost their ESG and sustainability credentials.

The market in compliance and voluntary carbon credits continues to grow. As we discussed in a previous article, green bonds based on compliance carbon credits issued as EU Allowances (EUA) and UK Allowances (UKA) are increasingly popular with asset managers who want their portfolios to meet environmental, social, and governance (ESG) criteria.

Other countries run their own, smaller carbon credit schemes, including the Australian Clean Energy Regulator and Japanese J-Credits. They’re becoming more common as the demand for ESG-compliant assets soars.

At the same time, we’re seeing a shift towards the voluntary carbon markets alongside an increase in trades in voluntary carbon credits. Voluntary credits are distinct from compliance markets, which are created by national, regional, or international regulation.

As the name suggests, there is no legal requirement for anyone to compensate for carbon emissions with voluntary credits, but many companies choose to do so anyway. That has opened a thriving market in voluntary carbon offsetting. 

Carbon credits have become a differentiator

Compliance carbon markets are currently the bigger player, but the potential of voluntary carbon markets is huge, accounting for most of the rest of the world outside Europe and the UK.

In the U.S., for example, where compliance is not required, many Fortune 500 companies already purchase voluntary carbon credits to compensate for their carbon emissions.

But if they’re voluntary, why bother? For a start, a company may realize that its future, and that of its industry, will depend on creating a sustainable business model over time. It may want to show positive intent to circling regulators. And executives may feel a personal responsibility to help the world meet its climate mitigation goals.

In addition, customers and investors increasingly want to see a commitment to sustainability—and evidence of that commitment. Non-financial reporting and ESG has become a real differentiator for forward-thinking businesses across the globe.

It’s not always possible for a business to significantly reduce greenhouse gas emissions in the short term, regardless of the efficiencies they implement. Instead, many choose to purchase voluntary carbon credits to offset the emissions they can’t avoid.

The carbon credit market

The voluntary market is still relatively small compared with compliance schemes. According to a recent AFM report, the total trade value of voluntary carbon credits was only $2 billion in 2021—but it is expected that demand for voluntary carbon credits will increase by a factor of 15 by 2030 and by a factor of up to 100 by 2050.

It’s easy to see how that can help the business, but how does it help the world?

As with EUAs and UKAs, in the first phase the money is invested in projects that help countries meet climate mitigation goals, whether that means reforestation schemes in Asia or property insulation projects in Europe. There are, in fact, thousands of possibilities.

And individuals, institutions, and businesses are all part of this growing voluntary market. To take one example, some airlines now offer passengers the chance to offset travel-based emissions for a small extra fee. The airline will then buy carbon credits to compensate for greenhouse gases produced by the flight.

Carbon credits can be commoditized into tradable assets on secondary carbon trading markets. These assets help pension, endowment, and other institutional funds meet ESG goals, especially net-zero carbon targets.

The role of custodians in carbon markets

In both compliance and voluntary markets, transparency is crucial. Companies must do what they say they are doing, and they must be able to show it.

Custodians help to ensure that transparency. Custodians are independent third parties that take ultimate control over compliance and voluntary assets to minimize potential conflicts of interest.

The assets are not controlled by either the asset originators or funders. This detached custodial status gives assurance to all parties.

Carbon credit markets are expanding to meet a growing need for ESG-friendly assets. EUAs and UKAs are becoming portfolio mainstays as part of a multibillion-dollar compliance carbon sector. But the potential in voluntary carbon markets could be even greater.

These voluntary credits are issued by verified greenhouse gas crediting programs and overseen by independent third-party custodians who bring transparency and trust.

Why CSC

CSC provides tailored administration and strategic outsourcing solutions to support the complex operations of alternative asset managers across jurisdictions and asset types while adhering to global regulations and compliance. A market leader, we work with funds of all sizes, from start-ups to the largest and most experienced fund managers in the world. Founded in 1899, CSC prides itself on being privately held and professionally managed for more than 120 years. We are the trusted partner of choice for more than 90% of the Fortune 500® and more than 70% of the PEI 300. CSC has office locations and capabilities in more than 140 jurisdictions across Europe, the Americas, Asia Pacific, and the Middle East. We are a global company capable of doing business wherever our clients are—and we accomplish that by employing experts in every business we serve. We are the business behind business®. Learn more at cscgfm.com.