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Blended Finance
“In order to deal with the consequences of climate change, we require investment in a completely different order of magnitude.”
Martin Ewald is Managing Director and Lead Portfolio Manager Impact Investments at Allianz Global Investors. In this interview, he explains how blended finance as an investment form can mobilize the trillions needed to combat climate change.
Blended finance is a relatively new field. Why does the world need this form of investment?
“The world” is well chosen because this is about nothing less than the global fight against climate change. The world can only overcome this challenge if private capital is mobilized alongside limited public funds. Only the latter is available in abundance, for example to finance the transition to renewable energies in Africa - and to do this now so that the continent does not continue to rely on fossil fuels. However, because the risks are high and many markets are untested, private investors cannot easily invest their clients’ money into such projects. Public capital is therefore added as a buffer in order to reduce the default risk for private investors to a normal level. As soon as the risk-return profile is right, private investors are very open to investments of this kind.
Allianz Global Investors has launched the Emerging Market Climate Action Fund (EMCAF). Why?
Firstly, we see that blended finance is a business with a great future. Secondly, we know that as an investor we have the skills to be at the forefront of this business area today. And last but not least, we are convinced that in order to deal with the consequences of climate change, we require investment in a completely different order of magnitude. In 2019, we founded the AfricaGrow fund of funds, which is financed by public and private funds. This finances 150 innovative small and medium-sized enterprises and start-ups in reform-oriented countries via African funds in order to promote sustainable development and jobs. In 2021, EMCAF was added to invest in global funds in emerging and developing countries that specialize in the construction of new capacities in renewable energy plants.
EMCAF is fed with senior capital and junior capital. What is the difference?
Junior capital of up to 200 million euros is provided by governments or public investors – from KfW on behalf of the German government, the Luxembourg government and the Nordic Development Fund. The senior capital of up to 400 million euros comes from Allianz, our fund partner, the European Investment Bank and the Swedish insurance company Folksam. If the portfolio as a whole is not profitable, which is the fund’s explicit aim, the fund is structured in such a way that the first third of any write-down only affects the junior capital. This is the buffer we talked about at the start: private capital is not completely exempt from investment risk but is nevertheless sufficiently protected to make the risk/return profile more bearable. It is about risk mitigation, not public subsidization of private returns.
Private capital therefore enjoys more protection. What advantage does that have for public investors?
Let’s stick with the 200 million euros from public investors. Before public-private blended finance existed, a government would only have had this amount of investment at its disposal. With blended finance, it can now triple the amount of capital. To do this, it must be prepared to use its capital as junior capital to protect the senior capital. But its investment risk is no worse than if it were to manage a project on its own. In addition, with funds of funds such as AfricaGrow and EMCAF, you have to bear in mind that for every euro invested in a local fund, another four euros are added by co-investors. And that for every project that this local fund supports, the capital volume is tripled or quadrupled again through borrowing. Every euro invested by a government can therefore mobilize up to 50 additional euros: the original euro becomes three euros, three become 15, 15 then becomes between 45 and 60 euros.
Can you describe specific projects for which the fund has provided capital?
EMCAF has invested 15 million US dollars in the ARCH Cold Chain Solutions East Africa Fund. The fund finances the development, construction and operation of temperature-controlled storage and distribution centers for food and medicine in East Africa. In doing so, we enable important work at the interface between climate change, food security and healthcare. We have also invested $25 million dollars in the Alcazar Energy Partners II fund. This involves the development, construction and operation of solar and wind energy projects with a capacity of 2 GW in the Middle East and North Africa.
How much capital could blended finance funds ultimately mobilize for the world?
There has long been a belief in the international donor community that the billions we are currently using to combat climate change and its consequences must become trillions - turning billions into trillions, as the saying goes. In my opinion, there is no question that climate change will cost us thousands of billions. That may sound frightening. But if blended finance allows us to mobilize 50 euros - or 1 trillion through 20 billion - by investing 1 euro in a fund of funds, the challenge looks somewhat different. In my view, public-private blended finance is the way to tackle one of the world’s biggest problems.
