The UNEP Inquiry into the Design of a Sustainable Financial System highlights a ‘quiet revolution’ of green financial policy making: regulators, policymakers and private standard setters around the world exploring steps to align finance with sustainability. This quiet revolution is becoming louder, and gaining momentum, demonstrated for example by China’s championing of green finance in its G20 chairmanship.

Banks, stock markets and pension funds are learning to understand the language of environmentalists, and vice versa. But these familiar incumbents of the financial system are increasingly being disrupted by new businesses using ubiquitous data, rapid communications and powerful computer algorithms.

One of the Working Papers developed by the Inquiry UNEP looked at one aspect of this disruption: how do the trends in electronic trading impact the likelihood of the financial system realizing its higher purpose of serving the needs of sustainable development? The Working Paper: ‘Perspectives on Reforming Electronic Markets and Trading’,  reflects discussions hosted in New York by Hazel Henderson of Ethical Markets Media,  where securities markets experts and traders shared their insights and experience with Simon Zadek, Co-Director of the UNEP Inquiry.

Perspectives on Reforming Electronic Markets and Trading

Participants argued that market structures have created a system where brokers, trading venues and asset managers are incentivized to extract rents, rather than serve the needs of investors and issuers. The result is reduced efficiency, diminishing trust, and increasing complexity as regulations battle to catch up.

John Ramsay, of the IEX Alternative Trading System talked about their market-based approach to combatting high frequency trading (HFT) by applying a 350-microsecond “speed bump” to all trades. Dave Lauer of KOR Trading argued that HFT should not be demonized, but seen as a reflection of poor regulation and structural inefficiencies which encourage a race for speed. He advocated development of better metrics for assessing the performance of brokers and asset managers, and quality of exchange venues. Joe Saluzzi of Themis Trading argued that a few small changes in regulation of equity markets could refocus them on serving the needs of investors and issuers. Others such as Stuart Valentine of Centerpoint Investment and Katherine Collins of Honeybee Capital argued for deeper changes, highlighting the culture of finance and the need to define its performance in terms of value created for society.

What does financial technology mean for sustainable investment?

Discussion of esoteric split-second trading practices and technical regulations to respond to them may seem far removed from green finance measures such as annual reporting on environmental emissions and guidance on fiduciary duty. But it is clear that ineffective, inefficient and fragile financial markets have negative impacts on the real economy. If long-term investment suffers, this will slow the transition to low-pollution, climate resilient, and more natural resource efficient economy. As Henderson argued “all the progress by investors and policy makers in shaping more responsible corporate and financial practices can be undermined if the markets’ underlying plumbing and structure is unsound.”  The report has now been submitted to the Chair, Mary Jo White, of the top US regulator, the Securities and Exchange Commission in Washington, D.C.

While electronic trading is at an early stage of development in many emerging markets, this will not remain the case for long. As Simon Zadek, Co-Director of the UNEP Inquiry reflected “the growth in the sophistication of these financial and capital markets does not have to embrace the dysfunctions apparent in some mature financial systems today”.

At the same time financial technology opens up new potential for reducing transaction costs, raising capital, assessing risks and blending financial and non-financial returns, as demonstrated for example by the growth of pay-as-you-go solar systems.

Technological advances in areas such as renewable energy are well recognized as a key factor in allowing the transition to a green economy. But as governments, investors and international organizations seek to develop pathways towards a greener financial system, they will have to factor in the disruptive power of technology within the financial system itself.

The Working Paper ‘Perspectives on Reforming Electronic Markets and Trading’ was jointly developed by the UNEP Inquiry and Ethical Markets Media, an independent media company that promotes the emergence of a sustainable, green, more ethical and just economy worldwide through work including the Green Transitions Scoreboard®, an annual assessment of global green investment by the private sector.