Derivatives in Sustainable Finance

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In recent years, sustainability has risen in scope and importance on the agenda of policymakers. In Europe, this has translated into the EU Sustainable Finance Action Plan, which aims to: i) reorient capital flows towards sustainable investments; ii) manage financial risks stemming from climate/environmental/social issues; and iii) promote transparency and long-termism in financial and economic activity.

A market that could play a significant role towards Europe’s green transition is derivatives. The market has been tightly regulated since the 2007-08 financial crisis, making it safer and more transparent. Derivatives facilitate capital-raising via the hedging of risks related to sustainable investments. Moreover, they enhance the transparency and the price formation process of the underlying securities, and thus foster long-termism.

This report highlights how derivatives markets can – through their forward dimension, their global and consolidated nature, and their proper regulation – contribute to:

  1. enabling the EU to raise and channel the necessary capital towards sustainable investments;
  2. helping firms hedge risks related to ESG factors;
  3. facilitating transparency, price discovery and market efficiency; and
  4. contributing to long-termism

Karel Lannoo is General Manager of ECMI and CEO of CEPS.

Apostolos Thomadakis, Ph.D. is a Researcher at ECMI.