Loan Markets Are Pricing In Climate Transition, Penalizing Coal


Credit markets are starting to price in the transition to a low carbon economy.

New research from Oxford University that analyzes changes in loan spreads -- a measure of credit risk -- found the cost of financing renewable energy projects shrunk dramatically over the past two decades, while the opposite was true for coal, the most carbon-intensive of the fossil fuels.

When comparing average spreads from 2007 to 2010 with those from 2017 to 2020, the researchers recorded a 12% decline for onshore wind and 24% drop for offshore wind farms. By contrast, coal power stations saw a 38% increase in loan spreads and coal mines recorded a 54% jump.

“Climate-related transition risks in the energy sector are sometimes viewed as distant, long-term risks,” said Ben Caldecott, co-author of the report and director of the Oxford Sustainable Finance Programme. “Our findings support the conclusion that they are being priced today.”

To have any chance of reaching the goals of the Paris Agreement of limiting global warming to 1.5 degrees Celsius, all sectors of the economy will have to cut emissions and retool their operations for a net-zero world. Achieving that monumental feat will require about $2.4 trillion of investment in the energy sector every year and for lenders and debt underwriters to support the transition away from fossil fuels.

And while the pivot to a low-carbon world is already having an impact on the cost of capital for energy companies, “the challenge is that this isn’t happening evenly and certainly isn’t occurring at the pace required to tackle climate change,” Caldecott said. One area where financing costs will need to rise, is for oil and gas projects, he said.

While loan spreads for gas-fired power stations rose by 68% from 2000 to 2010, they rose by just 7% in the past decade, the Oxford data show. Meanwhile, financing costs for oil and gas production, were stable during the past decade, with loan spreads rising by only 3%. For offshore oil, spreads contracted by 41% in the period.

The data suggest that oil and gas companies have evaded the same degree of financial punishment that’s occurred in the coal sector. That’s likely to change, according to Xiaoyan Zhou, lead author of the Oxford study.

“If these observed trends continue and we see the cost of capital for oil and gas go the way of coal, this could have very significant implications for the economics of oil and gas projects around the world,” Zhou said. “This could result in stranded assets and introduce substantial re-financing risks.”

The Oxford analysis is based on 12,072 loans between 2000 and 2020 from 5,033 borrowers across 118 countries in the energy and utilities sectors.

©2021 Bloomberg L.P.

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