“Green” repo: it’s happening, buy-side’s a driver, but it’s mostly a collateral and data play for now

Repos against green collateral were reported to have been done already. Most seem to have been transacted by investment funds placing cash. Some transactions may also have supported trading of the brown-green bund spread (made possible because of the unique parallel brown-green issuance of bunds), writes Richard Comotto, repo commentator in a Linked In post.

However, the flow of business appears to be something of a trickle. Most firms are only just starting to think about green repo. So, given that virtually nothing has been written about green repo to date, for once, there seems to have been more action than talk.

It seems likely that the buy-side will continue to be the main driver of green repo. Many funds have been discussing green collateral schedules with their tri-party agents (for repo and securities lending). And agents are investigating what they can do to pro-actively assist clients, for example, by providing classification data.

These baskets will be bespoke (like most current tri-party baskets). It’s not clear that there will be much take-up for Eurex’s CCP-cleared green repo basket, given its standardization and heterogeneity. But it has been welcomed as a signal of industry intent and a first step on a much-needed learning curve.

All collateral baskets, whether bespoke or standardized, face the same problem: how to define eligibility criteria? This is a particular problem for green collateral. There is currently a plethora of standards for “greenness” and its various sub-categories (and indeed, for all sectors of ESG finance).

The quantity and quality of the data needed to test eligibility against these standards also poses a challenge. Index-providers, data-providers and rating agencies have started to offer products to help validate the particular greenness of securities (eg WM Datenservice provided the green flag for Eurex’s green repo basket).

Electronic trading platforms and information vendors are attaching green tags to some bonds although the criteria are not always clear. In the absence of standardization and data, most collateral-takers are defining eligibility empirically by the exclusion of the more notorious categories of brown security rather than portfolio inclusion against a list of general principles-based criteria. As standardization and data for screening is not a problem unique to green repo, the repo market will have to wait for bigger initiatives to play out.

One practical constraint is the supply of green securities (however one defines greenness). Supply is limited and skewed. So, if funds are too strict or idiosyncratic, it will be impossible to construct diversified portfolios and finding repo counterparties will also be difficult.

There is also the question of whether funds will seek to ensure that the cash they put into green repo is used by the borrower in conformity with the standards of the green portfolio from which it came? And will borrowers insist that the cash coming into green repo comes from a green source? But if these restrictions are applied, how will they be implemented?

Another question is how treasuries can justify lending or borrowing through green repo unless green collateral offers a premium, enhanced liquidity or better quality?

As regards suggestions that regulatory preference could be given to green assets, there was scepticism about whether such an adjustment to monetary policy implementation would undermine its credibility. On the other hand, the idea of central banks giving preference to green assets by tilting collateral eligibility schedules was taken seriously, perhaps through cheaper money for green versus brown corporate bonds.

It would therefore seem that the only real news about green repo at the moment is about potential triparty repo and perhaps the brown-green bund spread. Otherwise, it’s all about collateral and data rather than repo. Consequently, the thought has been expressed that it makes little sense to talk about “green repo” at this stage and it would be less distracting to refer to “green finance”.

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