Green bonds are going mainstream
Green bonds may still be a niche market within global fixed income investments, but it is clearly the fastest growing of them all. In 2015 the total new issuance of green bonds for the year was c. $50 billion. In 2019, about the same amount of green bonds were issued in the first quarter alone.
The beauty of green bonds is that they are issued by respectable corporate and sovereign borrowers and thus, they tend to have good credit ratings. And while one of the preconditions of green bonds is that the money raised through them can only be used for certified sustainable economic activities, in the case of a default, green bond holders have the same rights as traditional bond holders. As an example, think of Toyota raising funds to finance hybrid and electric cars that are leased to their customers. While the investors in the green bond support the expansion of the electric and hybrid car fleet of Toyota, the bond itself is still backed by the balance sheet of the company overall. Thus, green bonds should have similar risk and return characteristics as traditional bonds but a clear edge in terms of sustainability.
Over the last couple of years, the universe of issuers has expanded dramatically with sovereign issuers coming to the market. In January 2017, France issued the first sovereign green bond, but by now ten countries have issued green bonds and in 2019 Chile was the first Latin American country to issue green bonds.
The market develops fast. In 2018, the Loan Market Association (LMA) published its Green Loan Principles, launching the green loan market that complements the traditional green bond market. And in December of the same year, the EU Technical Expert Group on Sustainable Finance published a series of consultation papers on the proposed EU taxonomy for sustainable finance that will determine in a few years, which activities will be considered sustainable. Remember that the EU is in the process of creating mandatory rules for sustainable investing for all institutional investors so that the demand from institutional investor for green bonds is expected to increase dramatically in the coming years.
For private investors, there is also a growing number of green bond ETFs available like the iShares Global Green Bond ETF (BGRN), the Lyxor Green Bond UCITS ETF (CLIM) and the VanEck Green Bond ETF (GRNB). All of these ETFs have been small so far with assets under management of $50 million or less, but that is about to change. The second quarter 2019 saw a large spike in inflows in green bonds culminating in a total of $1.2 billion in June. Since institutional investors so far have not used ETF and mutual funds to cover their green bond exposure this spike either reflects the decision by a large wealth manager or a group of large wealth managers to invest in green bond funds, or the decision by some institutional investor(s) to gain exposure to the market via funds instead of single bonds. No matter the reason, the signs are clear: the green bond market is not only growing fast, but it is becoming increasingly similar to the traditional bond market in terms of instruments and market liquidity.
Inflows into green bond funds
Source: Bloomberg, Institute of International Finance.