Greenwashing fears may drive up the cost of climate finance

While small-scale retail investors with ESG preferences accept a yield discount, large-scale investors demand a yield premium—consistent with a greenwashing penalty. Credit: Kentaka Aruga, Saitama University

Reducing greenhouse gas emissions from industries such as steelmaking, chemicals and energy production requires enormous investment. Unlike conventional green bonds, which typically finance clearly defined environmentally friendly projects, climate transition bonds help carbon-intensive industries gradually move toward cleaner operations.

However, an important question remains: Will investors accept lower financial returns to support decarbonization, or demand higher returns because they are uncertain whether promised environmental improvements will actually happen?

Japan became the first country to issue sovereign climate transition bonds in February 2024 under its Green Transformation (GX) framework. These bonds offer an opportunity to investigate how environmental commitments, investor confidence and financial risks influence the cost of raising funds for the transition to a low-carbon economy.

Led by Kentaka Aruga of Saitama University's Graduate School of Humanities and Social Sciences, a research team collaborated with doctoral students Michał Ostrowski (University of Wrocław, Poland) and Ihsan Ullah (Saitama University) to investigate how investors evaluate Japan's GX transition bonds and the factors influencing their expected financial returns. This marks one of the world's first studies to examine investor perceptions of GX bonds.

The researchers surveyed 644 financially experienced Japanese individuals and applied statistical analysis to examine how investment portfolio size, environmental preferences, liquidity concerns and perceived greenwashing risks affect the yields investors would require.

Through this analysis, the team revealed significant differences in investors' stated return requirements and identified how concerns about the credibility of climate commitments are associated with potentially higher financing costs.

The findings were published in the International Review of Economics and Finance.

Key findings:

• Environmental labels do not automatically mean cheaper financing. The average additional yield demanded for GX transition bonds was close to zero, suggesting that opposing investor preferences may cancel each other out.
• Actual ESG investment matters. Investors who already held ESG-related bonds were willing to accept yields approximately 3.4 basis points lower, indicating that demonstrated environmental preferences may support favorable financing conditions.
• Larger portfolios reveal an ESG investment paradox. Investors with financial assets of at least JPY 100 million who prioritized environmental, social, and governance (ESG) criteria showed a predicted required yield premium of 9.4 basis points relative to comparable conventional government bonds.
• Greenwashing concerns carry a potential financial penalty. The predicted required yield shifted from a 10.8-basis-point discount among investors with no greenwashing concerns to a 4.8-basis-point premium among those with the strongest concerns—a difference of 15.6 basis points.
• Conventional financial risks remain important. Concerns about difficulties selling bonds before maturity were associated with additional required yield premiums of approximately 4.5–5.7 basis points.

"The important question is not simply whether investors prefer environmentally friendly investments, but how much confidence they place in the promised transition," explains Aruga.

"Our findings suggest that there is no single financial advantage shared by all sustainable bonds. Investors differ in their portfolio sizes, investment behavior and sensitivity to risk. Understanding these differences can help explain why environmental commitments alone may not be sufficient to secure favorable financing conditions."

The study highlights the importance of examining investor behavior rather than assuming that sustainability labels automatically reduce borrowing costs. It also provides new insights into the role of greenwashing concerns in the emerging international market for climate transition finance.

"Over the next five to 10 years, transition finance could play an increasingly important role in helping carbon-intensive industries adopt cleaner technologies," says Aruga.

"However, attracting the necessary investment will require more than ambitious environmental targets. Clear transition plans, independent verification and transparent reporting of actual progress could help strengthen investor confidence and reduce uncertainty.

"If these measures lead to more favorable financing conditions, they could support industrial decarbonization while helping governments and companies manage the economic costs of the transition."

The researchers emphasize that the findings are based on investors' stated preferences rather than actual bond transactions. Further research using market trading data will be needed to determine whether these patterns persist in real-world financing conditions.

More information

Kentaka Aruga et al., The large-scale investor ESG paradox and greenwashing penalty: Evidence from Japanese GX transition bonds, International Review of Economics & Finance (2026). DOI: 10.1016/j.iref.2026.105929

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Citation: Greenwashing fears may drive up the cost of climate finance (2026, October 26) retrieved 26 October 2026 from https://phys.org/news/2026-10-greenwashing-climate.html

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