Climate Bonds Market Comes Of Age As Investors Buy In To Green Finance

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This may be the year that climate bonds come of age. It’s an asset class that has grown up fast. In just a few years, the market for debt instruments that finance projects that help to tackle climate change, also known as green bonds, has increased hugely.

According to a new report, Bonds and Climate Change, The State of the Market in 2014, the amount of “labelled” green bonds has jumped from less than $4 billion in 2012 to $11 billion in 2013. By June 10 this year, $18.35 billion had already been issued and the market is on track to reach $50 billion by the end of the year and $100 billion next year.

“The Green Bonds era has begun,” states the report, issued by the Climate Bonds Initiative, a London-based organisation dedicated to bringing the market into the mainstream because “mobilizing bond markets as a low-cost financing tool will be essential for the realization of a low carbon and climate resilient economy”.

Labelled green bonds, those bonds where the money raised is allocated specifically to low-carbon projects – and verified to have done so – are the most high-profile part of the market but according to Sean Kidney, chief executive of the Climate Bonds Initiative, they are just “the visible part of the iceberg”.

Labelled bonds only make up about 10% of the total market, he says. As for the other 90%, there is a whole tranche of issuance that is climate-friendly but not labelled as such. The report says there are more than $500 billion of climate-themed bonds outstanding. “Many of these are railway bonds, which investors might not think of as climate bonds – but with transport emissions making up 23% of global emissions, anything that encourages modal shifts is a really big part of the solution,” says Kidney.

Highlighting this hidden part of the market is important because many investors are looking to invest in climate solutions but don’t know where to look, Kidney says. Showing investors that there is liquidity and scale in the market is important in attracting more people to invest and it also makes it easier for institutions to exit their investments. “The broader climate-themed universe is an indicator of where future bonds might be labelled,” he adds.

The Initiative screens bonds across seven key themes – Transport,Energy, Climate Finance, Buildings & Industry, Agriculture & Forestry, Waste & Pollution Control and Water. The climate bond market’s origins lie in the multilateral development banks such as the World Bank, the European Investment Bank and the InternationalMonetary Fund. Indeed, one of the most recent issues comes from KfW, the German development bank, which has just issued a €1.5 billion AAA 5-year green bond to help finance renewable energy projects. Like most climate bonds, it was oversubscribed.

Most of the climate bonds that have been issued so far have come from the multilateral banks because this is a new market and investors needed the deep pockets and AAA ratings of these institutions to give them the confidence to invest. Another key factor in the growth of climate bonds’ popularity has been that investors are not asked to pay a premium for them. “If you can invest in two bonds that offer the same return over the same period, but one of them allows you to tackle climate change at the same time, then why would you not do that?” says Kidney. “The issuer benefits are coming from diversification, not pricing.”

As the market grows, it is starting to attract a wider range of issuers, Bridget Boulle, co-author of the report, says. “In the coming year we will see growth in labelled Green Bonds from municipalities, cities and corporate issuers. We expect increasing demand from investors signed up to the Principles for Responsible Investment and the GlobalInvestor Coalition on Climate Change.”

Notable corporate issuers include DC Water, which recently issued a 100-year bond, Italian utility Hera, carmaker Toyota, Unilever , French utility GDF Suez and solar panel installer SolarCity.

One area that will become more important is standards for the asset class, Kidney adds. Because the money raised is meant to be earmarked for environmental projects, it is important that investors have confidence that this is the case. Almost two thirds of bonds issued since the start of 2013 have been independently reviewed and it is important to get that figure up, Kidney says. “You need to get a second opinion to verify the environmental criteria. In the absence of clear and widely accepted guidelines around what is green there is a risk of “greenwashing”, where bond proceeds are allocated to assets that have little or doubtful environmental value. This would shake confidence in the nascent market.”

Nonetheless, the market is well-positioned, he says. “Investors are concerned about climate change. This report shows how they can invest in climate bonds without risk. The investment opportunities we find are safe and secure investment grade bonds. This is a Dull Green Market – just how pension funds and insurance funds like it.”

Mike Scott

Founder at Carbon Copy Communications