How ESG-linked FX hedging works

14 January 2022

In an Economist Impact webinar supported by Deutsche Bank, two corporate treasurers shared why they chose to link their FX hedging to sustainability targets and how the programmes work. flow summarises the four key learning points

Sustainable finance is on the rise and has been growing rapidly in the capital markets. In 2021, global sustainable bond issuance – comprising green bonds, social bonds and ESG bonds, where proceeds are used to finance sustainability projects – reached US$859bn up from US$534bn in 2020, according to Refinitiv Data.1 At the same time, the newer market of sustainability-linked bonds is also growing and expected to become mainstream in 2022, as Deutsche Bank (db Research Points) recently reported.2 In this sub-market, the coupon changes if the issuer meets or fails to reach pre-defined ESG targets.

Several multinational corporates such as Amazon3, Toyota4 or Henkel5 have already issued some form of sustainable bond to showcase to investors how the company is, for example, mitigating CO2 emissions or reducing plastic waste. However, linking FX hedging programmes to ESG performance is still a rather unfamiliar concept to most companies – although the general mechanism works like sustainability-linked-bonds because the cost of these derivatives is tied to the company’s ESG goals.

So, what drives pioneers in this space to implement such FX hedging programmes? How are sustainability targets quantified and monitored, and how does the linkage to ESG key performance indicators (KPIs) affect the daily FX hedging process? These issues were discussed in a recent webinar titled “Getting to grips with ESG-linked FX hedging”, hosted by The Economist and supported by Deutsche Bank. The webinar participants were

  • Fabio Casinelli, Head of Group Treasury, Enel;
  • Jeremy Hamon, Head of Group Finance, Primetals Technologies;
  • Claire Coustar, Global Head of ESG, Fixed Income & Currencies, Deutsche Bank; and
  • Sebastian di Paola, Partner, PwC (Moderator).

Four key takeaways from the webinar

1. Business and finance strategy needs to be aligned

The panel discussion emphasised how it all starts with a convincing, integral sustainability strategy which – in a second step – can then be mapped to financial products. In 2019 multinational energy group Enel, in line with its already-established sustainability path, decided to also “create a link to sustainability KPIs for each tool in finance”, as Fabio Casinelli its Head of Treasury explained.

Following its world’s first US-dollar sustainability-linked bond issued in 2019, “sustainable finance sources represent today around half of the company’s Gross Debt”, thus directly addressing the Sustainable Development Goals (SDGs) of the United Nations. “One by one, we have showed that our commitment is a holistic approach that combines business strategy and finance,” said Casinelli. Enel not only “delivers on energy transition but also on the transition of finance.”

2. ESG-linked hedging programmes allow companies without access to capital markets to showcase their sustainability journey to banks and the public

“Not every company funds itself via capital markets, but almost every company needs FX derivatives,” said Deutsche Bank’s Claire Coustar. This applies, for example, to small and medium sized companies, which – especially in Europe – rely on bank financing, and also to subsidiaries such as Primetals Technologies.

The company receives funding via its parent company Mitsubishi Heavy Industries and does not publish its own reporting, Jeremy Hamon explained, which is why Primetals Technologies sought an alternative way to display that it “provides technology which helps steel makers with their green transition”. Sustainability-linked derivatives (SLD) proved to be a good way of doing so. In 2020, the company entered into a four-year ESG-aligned FX hedging commitment, as flow reports in the article “On the right track”.

Even Enel’s Casinelli, whose company has been very active and a pioneer in ESG capital markets, considers SLDs as a good first tool for companies to “enter and explore the sustainability-linked finance world” if they have not done this already. According to him, preparing capital market transactions takes longer also because of the necessary talks with investors. On the contrary, if treasury “starts to shape its experience in a direct dialogue with the banks, you can better develop your experience”. If the company’s ESG strategy is “sufficiently strong you can then approach the capital market”, he believes.

3. ESG performance measurement must not interfere with the daily trading process

For FX trading, seamlessness of execution is critical, as Coustar outlined: “Pricing is done in timely manner, a second can make a huge difference.” At Primetals Technologies, it was therefore “one of the most important requirements” that KPI measurement didn’t interfere with daily trading, Hamon stated, “whatever we are doing needs to be smooth, and as much as possible straight through”.

According to him, this requirement was fulfilled. “I spend a lot more time on the ESG audit while the trading process remained unchanged and that’s good,” he explained. Because ultimately, the purpose of this whole exercise is to display and improve ESG performance.

4. Programme structuring can take various forms as companies use different instruments and have different needs

SLDs are still a niche market. “When we started with Primetals Technologies, there were no standards”, says Coustar, so Deutsche Bank reviewed the KPIs set by different industries and companies when issuing loans and bonds as well as “how ambitious the targets are relative to the scope of the company”. This knowledge was then imported “to our discussions that we have with the clients on the FX sides”, Coustar explains. Further work is in progress: in September 2021, the International Swaps and Derivatives Association (ISDA) published a proposal of guidelines on KPIs for SLD.7

While those guidelines are helpful, the hedging programmes will still need to be tailored to specific clients’ needs, as Coustar reminded delegates. Enel, for example, updates its Sustainability Performance Targets (SPTs) annually and, under its sustainability-linked FX agreements, receives a premium from its counterparties when the company meets its ESG goals, Casinelli explained. The Primetals Technologies programme, on the other hand, was created for FX options, and the company must pay a pre-defined penalty in form of a donation if it fails its targets.

For more on how Enel and Primetals Technologies use sustainability-linked derivates, watch the entire webinar here:


1 See https://reut.rs/3zXGzhV at reuters.com
2 See https://bit.ly/31Tm1dW at dbresearch.com
3 See https://bit.ly/3r9TpFY at aboutamazon.com
4 See https://toyota.us/3zOopPL at toyota.com
5 See https://bit.ly/3tpoisz at henkel.com
6 See https://bit.ly/34JdjQy at enel.com
7 See https://bit.ly/3tl0Rk5 at isda.org

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