Wirecard, ESG investing & green finance

• Published on July 6, 2020 in LinkedIn

I didn't expect Wirecard, ESG investing and green finance to become entwined, but they now have.

The Wirecard collapse has generally been a risk management and governance case study which keeps on giving. Questions about accounting/auditing, governance and regulators are being asked, as they should. Wirecard will probably also join the no-coupon club. We've seen an impact on the payment system, with some UK neo-bank customers losing access to funds in the wake of the collapse. Fortunately the funds were unfrozen, but this raises some questions about the resilience of the modern payment system.

Now the ESG angle to Wirecard. As the FT Moral Money column noted (if you don't subscribe to this column, you really should) "Wirecard earned median-grade ESG ratings from MSCI and Sustainalytics. Wirecard was also in a mid-tier risk category at RepRisk, a Swiss ESG rating company."

What does this mean? These firms rate a number of ESG features of companies and this is used by factor and sustainable investment funds in their stock selection process. Some base their selections predominately on these ratings, which resulted in some of them investing in Wirecard. Others use more than the ratings and a few didn't rate Wirecard highly at all. The concerns with data and using your own insight and analysis around ESG factors were features of our recent Data in decision making: Investment and Funds management webinar series. Our presenters Laurence Irlicht, Slava Platkov and Anthony Corr each covered this issue.

So while ESG investing has grown considerably, and the need for data has led to the ratings noted by the Financial Times, there are some kinks to be ironed out, and this is a wider issue for green finance overall. As the Economist noted late in June, "…green finance suffers from woolly thinking, marketing guff and bad data. Finance does have a crucial role in fighting climate change but a far more rigorous approach is needed, and soon." I would suggest the issues raised in the FT reflect bad data, by the way.

My view is we need to ensure we address the concerns noted in both the FT and Economist. While as educators we can ensure we have relevant units in our courses, the lack of consistency in reporting standards creates issues for investors and educators seeking to cover ESG requirements. The concern over standards was covered well in another article in the FT. Until everyone can agree on the standards which will be applied and provide the required, good, data we have the potential for more Wirecard-like issues. As more companies start to talk about their "net-zero" targets, the problem could get worse. Isn't it time for more comprehensive and consistent standards and therefore good data?

IBORs, Risk Free Rates and Beer LIBOR?

Imagine you walk into a bar (and I mean imagine, as it is difficult to do so at the moment!) and ask for a beer. The barman says “. A Beer? Well, we have this sparkling mineral water. Very nice!

You: But I want a beer!

Barman: Yes, but the mineral water is risk free!

You: How do I get a beer?

Barman: Well, buy this mineral water, and take it to the counter down there.

You: What will that do?

Barman: He’ll sell you a beer overlay

You: So he will make it a beer?

Barman: No, but something close

You: What will it cost me?

Barman: Oh, 1,2,3 dollars or so

You: Can’t you be certain?

Barman: Oh no, you’ll just have to trust me

You: Trust you, after Beer Libor….!

Now this may be imagined, but it reflects some very real questions. Recently, a Senior Central Banker suggested 90% of borrowers should accept Risk Free Rates (RFRs) as the borrowing rate once LIBOR is no more. Other industry figures suggest larger borrowers might, but smaller borrowers might not. Certainly most corporates accessing RFR finding have been large. One f the obvious questions borrowers would be asking is: what's involved with borrowing at RFRs?

This is a slightly different question to the one the FTA Technical Committee covered last year about how to prepare for IBOR Fallbacks. The prospect of borrowing at RFRs raises some pretty big questions and answers are proving hard to come by:

1. Can your lenders lend at that rate? No, that's not a joke. Banks have large programs underway to convert many aspects of their operations from using IBORs to using RFRs. This aspect is no different. Their systems have to be capable of managing RFR linked loans, and this will probably require a lot of work.

2. Can you borrow on that basis? Do you have the systems capable of changing from a rate known in advance to one calculated in arrears?

3. If there are no term RFRs, are you happy to enter into short term derivatives to achieve a synthetic term RFR?

4. How easy will these borrowings be explained to stakeholders? Will they accept in arrears rates or require in advance (See 3 above).

5. Impacts on hedge accounting are unclear. IF you create synthetic term RFRs, will they qualify and if you then hedged long term, would you need to unwind?

6. How would you document these loans? Work is still being done on fallback language, although there are debt capital markets issues (with varied terms and methods to calculate interest rates).

7. In Australia, should you be concerned, after all, BBSW is still around?

I expect more than a few of these questions will be answered before long, and despite the disruption we're facing due to COVID-19 this transition will continue.

Perhaps now is the time to step back, have a quiet beer (or beverage of your choice), be thankful there's no issue in the beverage market, and think through the possible answers to the questions here.