July 2018

vdp Pfandbrief breakfast Host: Commerzbank AG, Ted Packmohr, Head of Financials & Covered Research

Pfandbriefe as a sustainable funding instrument

In May 2018, Commerzbank hosted the annual vdp Pfandbrief breakfast in Frank- furt. Besides general developments on the Pfandbrief market, the focus this time was on sustainable/ESG Pfandbriefe. The following is an abbreviated transcript of a panel discussion in which representatives of some sustainable Pfandbrief issuers and Commerzbank participated. The participants talk about obstacles to setting up a sustainable funding programme, their green plans for the future, greenwashing, SpaBol’s approach, the risks of premature regulation, the green investor landscape, the pricing of green bonds and more. Participants: Ted Packmohr: The topic of sustainabili- ty has attracted a great deal of atten- tion on the capital markets. This is also true of the Pfandbrief market. But how do we define a sustainable Pfandbrief? Bodo, what is it that distinguishes a sus- tainable Pfandbrief from a regular one?

Bodo Winkler: I cannot give you a general answer as to what are the key features of a sustainable Pfandbrief. But I can tell you the key features of a green Pfandbrief. When we issued our first green Pfandbrief, we took the Bodo Winkler, Franz-Josef Kaufmann, following approach: The Pfandbrief Head of Funding & Investor Relations, Deputy Head of Capital Management itself is already a sustainable instru- Berlin Hyp & Funding, Commerzbank ment. It has been around a very long time, it has never defaulted and it helps financing properties at reason- able costs. This already includes some sustainability aspects.

Berlin Hyp has specialised in green Pfandbriefe. That means our main fo- cus is on the energy-efficiency of the buildings that are going to be financed or that have been financed already. Our first step thus was to define what we regard as “energy-efficient” and review the number of such buildings Jürgen Klebe, Claudia Bärdges-Koch, we finance. We have marked these Head of Funding & Investor Relations, Head of Debt Investor Relations assets in the bank’s systems early on. Deutsche Hypothekenbank & Client Acquisition, We have now extended these systems Münchener Hypothekenbank in a way that they include all ener- gy-efficiency data and sustainability Moderator: certificates of the buildings, implying that they can be analysed at any time. Ted Packmohr, Head of Financials & Covered As our roots lie in the Pfandbrief Bond Research, Commerzbank market, Berlin Hyp’s approach in the green bond segment has always been to have the green assets available prior to issuance. Temporarily allo- cating the issue proceeds from the green bond in non-green assets is not an for us. That means that we have basically applied the Pfandbrief’s collateralisation concept to our green bonds – even if we are speaking of senior unsecured bonds.

2 The Pfandbrief itself is already a sustainable

instrument. Bodo Winkler

Another requirement in the green meantime, however, we have expand- We convinced several investors with bond market is annual reporting. How ed our range of products and also of- this approach, but others were rather have the funds in fact been used? In fer our customers for example a green sceptical. They accused us of "gre- what concrete assets have the funds or another social loan facility. The enwashing" along the lines of: "You been invested? How has the pool of range has thus also widened for us. granted the loans to make money. assets developed over time? And the But initially, the question was: What Don't tell us now that there was some- supreme discipline: assessing the fits our business model and where is thing noble about it." We also wanted impact of the issue. the greatest potential for us? to address this in future.

The market’s first sustainable Pfand- You entered the sustainable Pfand- Another issue for us was the system- brief did not target the green seg- brief market already in 2014 but have atic recording of sustainable loans. ment though. Instead, Münchener not been active since then. Why is How do I find the corresponding loans Hyp placed the social component of that? in the mass of more than 190,000 sustainability at the fore in 2014. Why individual items? We initially lacked a is that? Wouldn't the green aspect have Bärdges-Koch: I hope that we will suitable marking in our systems, which been easier for a property financier? manage a follow-on issue before made reporting difficult. Consequent- Or do you have a different understand- maturity. But in the meantime we are ly, we introduced fundamentally new ing of sustainability? already working on the next project. products for which easier analysis is possible. Claudia Bärdges-Koch: 'Green' is defi- As I said: When the idea of entering nitely an important aspect of sustain- the sustainable market was born, we These new, sustainable products ability but not the only one. And when first had to go through our loan port- include for example private property you come from Munich or work there, folio, which already consisted then of financing geared to energy efficiency. you see very clearly that affordable almost 190,000 individual loans. Of We have also introduced a new social living space for example can also be an course, this meant a lot of effort and a loan for families. We consciously important pillar of sustainability. We lot of persuasive work. More and more invest in both product groups by of- have an internal Sustainability Com- requirements were also added by fering reduced interest rates. Hence, mittee that deals with such issues and oekom, with whom we have developed we believe we have addressed the gre- is made up of colleagues from a wide a framework. That is why we initially enwashing aspect while at the same range of specialist areas. A number of limited ourselves to housing loans time broadening our future sustain- different ideas were discussed as to with a social component. And still, the able focus. how Münchener Hyp should position effort was considerable: we had to go itself in this area. This began with an through the statutes of the individual analysis of the credit products we housing cooperatives for example, to already had in our portfolio. In the check how democratic they are. The question of reporting is also not easy when it comes to 'social'.

3 Investors we had never seen in our books before accounted for roughly 40% of our first green Pfand-

brief issue. Jürgen Klebe

This proves the enormous initial ob- to prepare our IT landscape for this. distance from public transport and stacles new issuers in the sustainable This took up the greatest part of our the sealing of surfaces are examples of segment can face. Deutsche Hypo is preparatory period, which comprised new ideas. In part, we included such the latest addition to the green Pfand- a total of c. 18 months. ideas from our roadshow activities, to brief market. What did it take to get integrate them into our reporting. This this project up and running? By now we have published our re- also took up part of the 18 months we porting, after issuing the first green needed to prepare. Jürgen Klebe: Of course, we moni- Pfandbrief in November. So actually, tored our predecessors’ experience we did not have to start our reporting Why hasn’t Commerzbank become closely and recognised the relevance before November of this year – but active in the ESG bond segment yet? of the sustainable market. Based we managed it two weeks ago, i.e. half on these examples, we decided to a year after the first issuance. This Franz-Josef Kaufmann: I think the address the green segment of the makes us glad. Hence, the targeted other participants have illustrated sustainable market. work towards reporting required a lot this point very well: There are circum- of effort, but it has paid off. stances when entering the sustainable Since Deutsche Hypo is a pure com- bond segment is easier and others mercial property financier, we have a But of course there are always sur- when it is more difficult. Commerz- much smaller number of loans. While prises on a roadshow. For example, bank, for example, is a universal bank our portfolio is not small, it is man- we were asked what “additionality” active in the mass market rather than ageable in that respect. Nevertheless, we offer. This means whether we are a specialist institution with a relative- we too naturally had to completely re- merely a trend follower or whether we ly low number of loans. Hence the IT vamp our IT landscape first, to permit are doing something new. My answer systems needed for such a step are coherent reporting. And if you don’t to this is: “Yes, we take criteria that much more diverse. When establishing keep that in mind right from the start, are known from other banks and have Commerzbank’s Pfandbrief eligibility you tend to make mistakes. For this therefore been established, analyse some years ago, we already noticed reason, we discussed at an early stage: them and have oriented our IT towards how much this increases the entry What is such reporting? What does them. But we also establish additional costs. it have to show? Of course, we had criteria that we think make sense”. In our case, taking account of the

4 And we have a clear aspiration: If we market entrance should therefore be cause something bigger has developed enter the green segment, we want to rather a question of time. from them. For us, too, the initial make a sustainable market appear- impulse came from the Treasury. But ance, i.e. we do not only want to issue You have just mentioned two very in the whole bank, the topic was very one green Pfandbrief or one green interesting questions. Does a sustain- openly received, and it was found that unsecured bond, i.e. a flash in the able product have to come with sus- this is, after all, one of our target ar- pan, but we would have a strategy for tainable issuance activity? And: How eas: We would like to finance state-of- further transactions at hand. can the sustainable assets be inte- the-art buildings. And state-of-the-art grated into the bank’s overall strategy? buildings are always energy-efficient, Our first appearance would have been Berlin Hyp has committed to certain and usually they also come with other relatively easy. As many clients may sustainability standards at the level of sustainable characteristics. We have know, Commerzbank is among the the whole bank. How is that reflected brought our systems to a level where largest lenders in the renewable ener- in your area? we can document all this. At the same gy segment, with an almost €5bn book time, we have incentivised this busi- in this business segment. However, a Winkler: First, I would like comment ness through more favourable financ- major part of this relates to loans tied briefly on Commerzbank: I under- ing conditions. to KfW funding programmes which stand these arguments very well. But hinders the use for own green issues. I think it is a pity if large banks do not Last year, we took another step by And yet we have a portfolio that could proceed more courageously in this setting a strategic target that was be used as basis for a first green issue. regard. We have seen quite different openly documented: By 2020, 20% of It would be more difficult for a prompt developments in other countries. Nor our property portfolio shall be classi- second issue though. Therefore, we do I think that when the first bond is fied as green. This compares with less have not yet felt sufficiently comfort- issued, it is absolutely necessary to than 3% when we launched the first able to create a sustainable, green know the second bond will definitively green Pfandbrief. We currently stand issuance strategy for Commerzbank. follow after a relatively period at 14.24%. Growth is thus remarkable, of time. All large Dutch banks, for but becomes more difficult, of course, Of course, we have a multitude of oth- example, have now issued green bonds the further this process progresses. er assets that should also be suitable – some only one, others as many as This shows that our target is really very as basis for green bonds but this leads three already. All large French banks ambitious. But this is the only way to us back to the data issue. We are one have also done so, as have all large achieve real progress and changes at of Germany’s major mortgage lend- British and Swedish banks. The Italians the institution. ers. In that business we naturally also and Spanish have also joined in, etc. apply many KfW standards so that – by In Germany, in contrast, it took a fairly The question that arises is, of course: virtue of this definition – one could say long time before a large commercial Does this benefit the market? I think that the respective assets can be clas- bank, LBBW, finally realised the im- it certainly does. At the end of the sified as green. But reporting remains portance of the sustainable segment day, this is precisely what investors important nevertheless: How can and put Germany on the map here. In want to see and what they consider these new requirements be integrated our view, this is an issue not only for “additional”: That a bank not only sells into the existing systems? KfW and a few specialists, but for the business it would do anyway as green whole market. I would therefore like to business, but makes an active contri- This subject is under active discussion see large banks such as Commerzbank bution and sets itself broad-based and within Commerzbank and, of course, acting more bravely here. I think this concrete targets. In the end, only this we also recognise the trend towards would be a positive step, for both the will also allow us to really come closer the green product. Personally, I think institution and the market. to attainment of the European climate this is one of the major capital market objectives. themes in recent decades. Sustain- But back to Berlin Hyp and the “ad- able, green funding should become ditionality” mentioned earlier: Green standard over time. Commerzbank’s bonds have added value for us, be-

5 Deutsche Hypo plays a special role Bärdges-Koch: Our initial offering of on a bond-related basis, as is currently here, insofar as it is closely integrat- €300m was based on 652 loans. At the case, or at the level of the bank as ed into a larger banking group. How Berlin Hyp, I think there were 17. At a whole. does your green strategy fit into the the same time, our average volume sustainability strategy of NORD/LB of private mortgage lending is only Could you mix the social and green Group? €129,000. So we are talking here of loans in the future without changing completely different scales to com- the existing documentation in which Klebe: It goes without saying that mercial property financiers. The path the Use of Proceeds is defined? And Deutsche Hypo’s appearance is part to a high percentage of sustainable could this be done while the first ESG of an overall group strategy. Here the loans is therefore naturally consider- Pfandbrief is still outstanding? term “one bank” may be familiar from ably longer in our case. the media. It means there is a com- Bärdges-Koch: This is one of the mon strategic framework, which each Why have we not come to the market a points that would speak in favour of group member fills for itself though second time so far? Jürgen described two separate paths. In addition, the in the interest of the whole. For this earlier that they had been working on documentation and coordination purpose the subsidiary the development of their IT systems effort with other departments should may look at the planned legislation for for about one and a half years before not be underestimated. I personally green Lettres de Gage, while NORD/ the market launch. We actually only would be in favour of a separation of LB checks its portfolio for renewable started this work after our first issue green and social issues because we energy financing, and for us as a com- because it became clear that repeat- also offer dedicated products on the mercial property financier the focus is ed appearances would otherwise be assets side – the distinction would on energy conservation. In this regard difficult. This partly explains the delay. therefore be clearer. But other col- the overlaps between us are limited. leagues also have a say in this deci- Rather, we complement each other However, in the meantime, every ninth sion. within the group depending on the loan we grant in the private prop- (subsequent note from the issuer: in strong points of the individual entities. erty financing business is green and the meantime, the bank has decided we support this product through a for two separate frameworks) For us as Pfandbrief specialists, it was discount in the lending terms. Even clear that we want to use the Pfand- so, it naturally takes time to create a Jürgen, have you received similar brief as an instrument also in devel- sufficiently broad basis for potential feedback from the investors’ side that oping our green strategy. However, benchmark issues they prefer pure green issues? Was since the Pfandbrief Act does not that one of the reasons why you chose include any specific rules for this, we In addition, we have not decided in- this option, or has this instead simply have developed a concept of our own ternally yet whether we want to make resulted from Deutsche Hypo’s asset and made it transparent. The other both social bonds and green bonds business? members of the group pursue similar separately in future or whether we objectives, but they are going their want to mix the two. Of course, we Klebe: Our main focus was on the own way. are open to feedback from investors. question of verifiability. For this rea- We have the impression that interest son we based our standards on the Bodo called for courageous action in purely green bonds is higher than Energy Saving Regulations. For each right at the beginning, and this is in issues with mixed sustainability green financing in our portfolio, we precisely what Munich Hyp has done. criteria, but we have not yet made a have an energy or sustainability certif- However, its reporting shows that final decision on this. (see subsequent icate. This makes it relatively easy for the cover pool allocated to the social note below). us to then calculate and prove a re- Pfandbrief is melting. Will there still duction of carbon dioxide emissions. be room for further issuing activities? This will, of course, also entail other And this inevitably led us to the green reporting requirements, including the bond, and not to the social bond. question of whether we want to report

6 We have the impression that interest in purely green bonds is higher than in issues with mixed sustainability

criteria. Claudia Bärdges-Koch

Does Commerzbank also request environmental standards must be met the standard documents that must be these certificates and store them in from certain years of construction. available and recorded. And because its systems? Younger properties can therefore every building sold or constructed automatically be classified as green. Is from 2014 onwards has to have an Kaufmann: In my opinion, the topic of this a standard with which Berlin Hyp energy certificate, all you have to do certificates has two sides. On the one could also be happy? After all, larger is ask for it and create the technical hand, there is the commercial prop- volumes could be classified as green possibilities to record the data. erty financing business where Com- relatively easily in this way. merzbank is active only at the margin. What I definitely welcome about the There, the certificates are in fact also Winkler: That is difficult in my view, SpaBol bond is that another EU coun- taken into account. That is relatively because Green Bonds are about try has taken the path towards green easy. knowing my assets. And if I only know refinancing. And it looks like this mod- how good they have to be at least, el will also serve as a blueprint for oth- On the other hand, there is the private but I do not know exactly how good er issuers. Hence, this will strengthen property financing business. While they actually are, I cannot make any the green movement as a whole energy certificates must be available concrete calculations on energy for every new property here as well, efficiency. Then I can only say that the Bärdges-Koch: I Bodo's view that enforcing this requirement in lending standard is definitely not worse than the energy savings achieved should does not seem to be general market so and so. This is not the most con- be more precisely demonstrated, but practice yet. This may also be due to vincing approach for me. I also think that the SpaBol way is ac- the fact that this is a very competi- ceptable for a start if you subsequent- tive market segment in Germany. But SpaBol justifies this approach by stat- ly build on it. without these certificates, evaluation ing that the certificates in Norway are will be difficult afterwards. not yet publicly available, but that also Even so, I need the energy perfor- means that the model could well be mance certificate to be able to carry In Norway SpareBank1 Boligkreditt has changed in the future. out the CO2 calculation afterwards. developed a solution to this prob- We have certainly not made ourselves lem: Although they do not yet have Energy certificates cannot be queried more popular with our credit col- electronic access to the certificates, electronically in Germany either. At leagues because they now also have to there are legal regulations that certain Berlin Hyp, however, they are among acquire those additional documents.

7 The ESG market is still in its infancy. And although we Germans like to set up fixed rules it should be helpful to just let the market go and widen at this stage.

Franz-Josef Kaufmann,

But we also provide incentives in the creative solutions and thus further Of course, as in the case of the form of better conditions for such market growth? I think it is a relatively Luxembourg legislative initiative for financing. Generally speaking, this also fine line between the two. green LDGs, one could also examine increases the customer's motivation in this country whether other types of to make such documents available. There is an action plan for sustainable assets could separately be suitable for financing at EU level, focusing on green green Pfandbriefe. However, this also I see that, initially, you are happy as assets and green bonds. Consequent- depends on the access rights to such long as the sustainable market grows. ly, a few first guidelines have been assets, which may differ from country But does this not bear the risk of un- created here at least. On the one to country. controlled growth of different stan- hand, these must be strict enough to dards? Should this be harmonised in a define green assets adequately. On the Speaking of Luxembourg. Franz-Josef, law for the green Pfandbrief? other hand, this must not be allowed Commerzbank still has a to deter potential participants. This is subsidiary in Luxembourg. Is the group Winkler: First of all, the Green Bond a challenge, but success is possible. looking at the opportunities to issue market only celebrated its tenth birth- green LDGs? day last year. So it's a young market. When we talk about the German And although issue volumes are grow- Pfandbrief, I feel very comfortable Kaufmann: It is true that Commer- ing quite dynamically and have at least with the current legal framework. zbank still has a covered bond sub- doubled from year to year, its share I also think it is good for our green sidiary in Luxembourg. But its cover of the total bond market worldwide is Pfandbrief investors that they would assets stem from the traditional public still less than 0.2%. One should keep ultimately have access to all cover finance business which we have largely that in mind. assets in the theoretical event of earmarked for wind-down. We do not issuer insolvency rather than to a want to continue this business in this In such young markets, the question much smaller green pool. After all, form. Therefore using the new LDGs is always arises: Does standardisation legally speaking, the green Pfandbrief not an issue for us at the moment. In provide clearer guidelines and thus is a normal mortgage Pfandbrief that addition, the Luxembourgeois market make even more issuers jump on the enjoys the same rights. I think that is a has generally only gained limited ac- bandwagon? Or does it instead hinder good thing. ceptance. This is already evident from the low number of active issuers.

8 One brief comment as to standard- Apart from that, the picture among I can imagine that the standards will isation: The ESG market is still in its investors is still very mixed. For some, become more mainstream. In , infancy. And although we Germans like it’s not an issue at all. Others already for example, a regulation has been in to set up fixed rules it should be help- find the cooperative concept of place since 2017 that requires fund ful to just let the market go and widen Münchener Hyp sustainable and do managers to calculate and report the at this stage. Against this backdrop, I not even look deeper into the product carbon footprint of their assets. It believe the SpaBol concept is cer- level. But of course there are also the is therefore no coincidence that the tainly helpful. In the end, the market real green investors, who use electric proportion of French investors in the itself will decide which standards are cars and first ask you how you trav- order books of our green bonds is very sufficient. elled to the meeting. The spectrum is different from that of our convention- very wide. al bonds. And since disclosure also On the investor side, too, this devel- plays a role in the EU Action Plan, it is opment has only just set in. For many It is therefore not possible to make quite conceivable that similar regula- investors, sustainability is not a major every investor happy and convince tions will also appear in other coun- theme yet; others are open to it but them with your concept. But I think tries in the future. do not make it a condition. Therefore, that as long as everyone makes some the name of the game currently is to contribution with their concept, this Do Deutsche Hypo’s investor statistics gain critical mass first, both on the is still to be viewed positively, and speak a similar language? Have you investment and on the issuance side, I believe that every bank could and successfully broadened the investor rather than already submit to too tight should actually do its bit. base with your first issue? constraints now which would create additional hurdles. As already said, not all investors were Klebe: Yes, by all means. Investors we enthusiastic about our first concept had never seen in our books before After all, if you want to establish a but later, when we introduced ded- accounted for roughly 40% of our first new instrument in an organisation, icated green credit products, this green Pfandbrief issue. These were you have to offer sufficient economic perception changed. The important mainly French, Benelux and Scandi- incentives to find internal supporters. thing is that the issue is addressed in navian investors, some of which even The tighter the conditions in this envi- concrete terms carry the idea of sustainability in their ronment, the more difficult the imple- name. We had specifically addressed mentation may turn out and the longer Winkler: On the investor side, a such names on the roadshow. the whole process. Therefore, I would distinction has to be made between initially let the market go and set investors with only general sustain- But we have of course also had nega- guidelines only gradually. I think this is ability requirements and special green tive feedback, where the Pfandbrief also the idea of the aforementioned portfolios. as such did not go down very well or EU initiative: to initially promote what it was suggested that we – and others is politically desired and channel and In Germany, too, it is now mainstream – would only launch a green issue to prioritise afterwards. that investments are checked for push through even tighter spreads. sustainability at least with a minimum But this was precisely what we didn’t You mentioned the investor side. filter. This means that a bond is only do: We priced the green Pfandbrief in Münchener Hyp has the longest taken into account if, for example, just the same way as we would have history in the sustainable Pfandbrief oekom has at least one prime rating priced any other Pfandbrief. Our pri- segment. Have you noticed from your on it. This kind of thing has become mary target is not the price function investor meetings that clients are widespread. As Berlin Hyp, we are an but the diversification approach. And increasingly interested in and open investor ourselves, and we also have we have clearly achieved this goal. to this product class? such a sustainability filter in our Depot A. This is also important in my view, to When will you expand your footprint Bärdges-Koch: I can already see this protect us from reputational risks. in the green senior segment? from our investor presentation: Today, the topic of sustainability is right at On the other hand, there are dedicat- Klebe: We have already started to the fore. ed investors in green bonds, making do so. After the €500m green Pfand- this a special discipline. But here too brief, we issued €54m on an unse-

9 cured basis. This included a €50m be compensated for the higher costs As a consequence, a separate green green bearer bond and €4m Schuld- of their green loans, and investors do spread curve could develop over scheine. Our reporting also shows not want to be punished for a more time, which should then be used as both the covered and the unsecured sustainable investment policy. Both benchmark. So far, few issuers have portion of the green refinancing arguments are understandable. such a complete curve of green bonds. But with regard to KfW and EIB, for Bodo, do you think the price differen- We have so far placed five green bonds example, we can indeed argue that tiation between green and non-green in benchmark format, including two green bonds can come to the market at bonds will grow when sustainability Pfandbriefe and three senior unse- slightly tighter levels. requirements become increasingly cured bonds. We priced all these common on the investors’ side? bonds on their respective curves, i.e. exactly like conventional benchmarks. Winkler: This discussion has been However, we have then seen a better underway for as long as we’ve been in secondary market performance of the this market, and usually the arguments green bonds. Depending on maturity, are always the same: Issuers want to we are talking about two to five basis points.

Presented by: Photo credits: Association of German Pfandbrief Banks Title Photo by kiki Wang on Unsplash www.pfandbrief.de

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