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Green bonds go mainstream

by Bernard Kellerman | 27 Jul 2014

Three years ago, the market for green bonds was a footnote to the huge global capital investment world, pioneered by a handful of development banks.

In the past year or so, an increasingly diverse range of securities labelled “green bonds” have entered the spotlight, with US$11 billion issued in 2013 (over three times the issuance of any year previous) and by mid-year over US$20bn had been issued, according to the third edition of Bonds and Climate Change: the State of the Market.

The report, written by the Climate Bonds Initiative with the backing of HSBC, also notes that the green bond issuer base has expanded beyond development banks to include corporates and municipalities.

“The green bonds era has begun,” the report proclaims.

The growth in the green bonds market is part of an overarching trend towards increasing interest in environmental, social and governance (ESG) issues across all asset classes.

This trend is gaining pace: global asset managers holding over US$13 trillion currently incorporate ESG issues into their investment decisions; investors managing $45 trillion of assets have joined the Principles for Responsible Investment, which has a working group on ESG in fixed income.

Closer to home, these investor sentiments are being followed, and have leaked into corporate decision making, as evidenced by actions such as ANZ’s decision to first withdraw funding and finally sever all ties earlier this year from the Gunns pulp mill in Tasmania’s Tamar Valley. 

Similarly, other environmentally- and socially-aware decisions have been made recently by other big banks, such as the announcements by HSBC and Deutsche Bank, ruling out investments in Queensland’s coal terminal expansion at Abbott Point, near the Great Barrier Reef.

Going for green

The term “green bonds” is used to refer to bonds where the use of proceeds is for climate or environmental projects, and is a subset of a much larger market, dubbed the “climate-themed bonds universe” — bonds whose proceeds are directed to climate projects but are not labelled green.

Sustainable investment advocate, Sean Kidney, the co-founder and chief executive of Climate Bonds Initiative, concedes that the term “green bonds” is effectively a marketing term, before countering with: “in reality they are corporate bonds with bonus”.

“We would argue that climate change is a specific environmental filter for those people concerned with ESG and SRI investment principles. 

"There is some $45 trillion worth of funds held by managers who are concerned about responsible investing. [Use of the green bonds label] is a discovery tool for those investors who are part of the US$22.5 trillion worth of funds held by the members of the Global Investment Council on climate change. 

“It's a large slice of the funds management industry,” Kidney asserts.

He further notes that investors should buy green bonds according to the quality of the security on offer, and treat the fact that the capital being raised is doing something positive for the environment as a bonus.

His researchers see no premium or discount attributed to green bonds, although the mix of investors can vary.

“The proportion of designated green bonds that has been purchased by ESG or SRI investors is much lower than you might think," said Bridget Boulle, program manager at Climate Bonds Initiative and one of the authors of this year’s report.

She noted that some bond issues had up to 80 per cent participation by “mainstream” institutional investors.

“We haven't seen any price differential which means mainstream investors are very important,” Boule said.

Climate goes beyond green

The much broader “climate-themed universe” is now estimated at US$503 billion, a big jump on the estimate a year previously of $346 billion, according to the climate bonds report.

Transport, mostly rail, makes up the largest proportion of climate-themed bond market with US$358 billion, as public transport is seen as a sustainable option. Next are energy and finance, with US$75 billion and US$50 billion, respectively.

Buildings and industry come in at number four, with US$13.5 billion committed.

The report points out that 75 per cent of the climate-themed market includes bonds with “an implicit or explicit backing from a government entity … due to the presence of large state-backed rail entities … [and] … multilateral development bank issuers”.

Most of these bonds are therefore investment grade (rated BBB- and higher).

Multiple currencies, new securities

Investors in green bonds over the past 12 months have shown strong demand for new types of issuers and bonds, including asset-backed securities (ABS) from Toyota — linked to hybrid and electric vehicle loans — and green building portfolios which have been given high energy performance ratings, such as those held by Swedish developer Vasakronan and a number of Australian REITs.

Adding to the diversity, green bonds have been issued in 21 currency denominations with US dollars and euros dominant.

“Interestingly, the other common currencies for green bonds are Swedish kronor, South African rand and Brazilian reals, which are generally less dominant across the bond markets,” according to the report, which observes further that, despite being common currencies within global bond markets, no British pounds or Swiss franc denominated green bonds were issued until January 2014.

Liquid green

This year’s report highlights Toyota’s efforts in setting up an asset-backed deal, and goes on to note that “developing a loan securitisation pipeline would allow equity investors and bank lenders to do more with less”.

“A liquid green bonds market that reduces re-financing risk for project lending will contribute to lower lifetime financing costs and will embolden project investors — knowing they have a good exit strategy. This is a critical benefit Green Bonds market can provide,” the report’s authors suggest.

 

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