Blended finance is rebounding, but this time with a twist. Commercial investors are stepping up to drive some of the biggest blended-finance funds for climate and development. Financial institutions like Allianz and Mitsubishi UJF Financial Group, hand-tied by strict regulatory rules around risk calculations, are overcoming obstacles by co-investing and stacking capital to back much needed – and potentially lucrative – climate and development interventions.
They’re doing it by working with development finance institutions, multilateral development banks, impact-first investors and philanthropic organizations on funds and deal structures with built-in buffers like guarantees, insurance and first-loss reserves that enable them to comply with regulatory requirements.
“Institutions have wanted to put money behind the Sustainable Development Goals but need investment-grade opportunities to do it at scale,” observed Debra Schwartz of the MacArthur Foundation on this week’s Agents of Impact Call, “Blending billions.”
By leveraging first-loss capital from Dutch development bank FMO and a guarantee from MacArthur, German insurance giant Allianz became the anchor institutional investor in the $1 billion SDG Loan Fund. The fund is one of a spate of recent billion-dollar vehicles dedicated to the SDGs and underinvested climate needs in emerging markets.
“I don’t want to pretend that a billion dollars solves the SDG funding gap,” acknowledged Schwartz, “but what we did think we could do was be big enough to matter – to make people look at it and begin to think about the pieces of the approach and how they could be adapted and applied in other settings.”
Banking on blended finance
The approach of layering concessional and commercial capital has long struggled to live up to its potential in accelerating investment for sustainable development and the climate crisis. Promisingly, blended deals are on the upswing, hitting a five-year high of $15 billion last year, noted Nnamdi Igbokwe of Convergence.
“We’re in the midst of a very punctuated moment where we’re going towards scale and we actually see the needle moving,” he said.
Commercial investors are stepping up to streamline blended deal structures. Setting up Project GAIA, a $1.5 billion debt facility for climate adaptation and mitigation in low-income countries, marked a “turning point” for Mitsubishi UJF Financial Group, said MFG’s Ariane Pevide. “We’re among the first that’s setting up blended finance as a product office, so together with capital markets, equity, derivatives, you have a blended finance office to make this part of our DNA and strategy,” she said. More banks, she noted, are following suit.
Pricing risk
Scaling commercial capital for climate and development is the goal, not scaling blended finance. Blended finance is meant to be a temporary tool to test, derisk, and build new investment markets.
Subsidies were needed to get capital flowing to clean energy, and now some of those regimes are easing as it becomes clearer how to price risk in solar or wind deals, for example. Blended finance “is not supposed to be a mainstay,” said Igbokwe. “It’s supposed to be a tool that is used and [then] hopefully no longer used as the market adapts.”
Climate Fund Managers leveraged derisking mechanisms in its more than $800 million Climate Investor One fund for climate mitigation in emerging markets. The manager is nearing $1 billion raised for Climate Investor Two, with an expanded mandate for climate adaptation, water and ocean infrastructure – all of which struggle to attract commercial capital at scale. Both funds attracted investment-grade institutional capital.
“There are still areas where it is high-risk business,” said Climate Fund Managers’ Rajashree Padmanabhi. “The market conditions and the context of geography and the technology, it all plays a very big role in what that level of subsidy should be.”
DFIs lean in
As the 2030 deadline looms for the SDGs and the Paris climate accord, DFIs and multilateral development banks have faced mounting pressure to step up as catalytic agents.
“They’ve been really trying to change the way they operate,” Pevide acknowledged.
In the SDG Loan Fund, FMO not only put up first-loss capital, its asset management group, FMO Investment Management, is teeing up the fund’s deal pipeline. MFG’s partner on Project GAIA, FinDev Canada, pushed for gender-lens integration in the fund’s impact mandate. Funded projects are eligible for technical assistance funding to build and enhance gender strategies.
“We don’t see that there’s a lack of will of being gender-positive, at the project level, it’s just that they don’t have that capacity,” said Pevide. “The technical assistance is what allowed us to make that commitment.”
Disclosure: MacArthur Foundation sponsors ImpactAlpha’s Catalytic Capital coverage.
