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SRI

Corporates wake up to social bond potential

Advances in defining the scope and measuring the impact of social and sustainable bonds have market participants dreaming of a boom in issuance. But involvement from private sector corporates is going to be crucial if the capital markets are going to realise their enormous potential for financing social change. Tyler Davies reports.

Looking at the sheer size and popularity of the green bond market today, it is hard to imagine that the practice of detailing the use of proceeds in capital markets transactions really began with an eye to social causes.

Many consider the International Finance Facility for Immunisation’s efforts in raising $1bn of funding for a vaccine programme in Africa back in 2006 as the earliest social bond, and the forerunner for the entire market for socially responsible investments.

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In 2018, however, it is climate issues, not social ones, that dominate conversations about using the capital markets as a force for global good.

Green bond issuance eclipses supply of social as well as sustainable bonds, which mix elements of both green and social transactions. 

Only about 10% of the $400bn of SRI issuance outstanding can be said to be social or sustainable, according to Dealogic data.

“If you talk about ESG, the natural reaction is for people to think about climate issues,” says Kai Poerschke, head of SSA origination at DZ Bank in Frankfurt. “Only after that do they start thinking about social issues.

“This is now beginning to change. As green bonds have become established, more effort has been going into social bonds.”

Chris Wigley, senior portfolio manager at Mirova in Paris says that the potential for growth in the market is clear. 

“We are focusing on environmental issues alone when we are focusing on green bonds,” he says. “But the range of projects is much broader when it comes to social bonds — we are talking about health, education, gender equality, affordable housing and a whole range of different areas.”

This very diversity has led to an obvious desire for a clearly identifiable notion of what constitutes a social or a sustainable bond.  That is partly why the creation of the Social Bond Principles by the International Capital Market Association in 2017 has been seen as such an important step.

Spain’s Ico operates at the centre of the nascent social bond market. As a development bank financing SMEs in under-resourced areas of the country, there is a clear social mission at the heart of what the issuer is trying to achieve.

But Ico had to use the Green Bond Principles as a basis for drawing up its first social bond in 2015, explaining to somewhat surprised investors that the only real difference between a green and a social bond concerned the different uses of proceeds.

“The release of the Social Bond Principles has been a game-changer for us,” says Rodrigo Robledo, head of capital markets at Ico in Madrid. 

“With the Social Bond Principles we have seen more investors buying social bonds as they feel more comfortable now that there is a framework with strong support and recognition in the market.”

Taking care of business

The next most important step is going to be coming up with a way of properly describing how social bonds can carry out their intended effects.

“Last year was all about having issuance guidelines, this year is all about representing the use of proceeds in an impact reporting context,” says Vlad Mitroi, a vice president in DCM structuring at ING in Amsterdam.

ICMA published a framework in June outlining a harmonised method for reporting on the use of proceeds for social bonds. The document develops a number of the key notions around the best ways to describe the impact that new deals can have.

Issuers are not only encouraged to select relevant project categories for their social bonds, like health or education, they are also recommended to identify the “target population” set to benefit from the deal’s issuance.

“A lot of the impact reporting for green bonds is quantitative, as we have internationally accepted standards for calculating carbon emissions,” says Olaf Brugman, executive direction and head of sustainable markets at Rabobank in Utrecht. “But we are still lacking a common understanding for what a suitable impact indicator might be in the social bond sector.”

“Having more guidance on impact reporting for social bonds available is a good way to promote the market,” adds Dick Ligthart, an associate director in DCM for green, social and sustainability bonds at ABN Amro in Amsterdam.

“It may not make a huge amount of difference to the more sophisticated issuers that have already been to the market, but having a clear framework for impact reporting might provide comfort about reporting expectations to new issuers who have been reluctant to go to the market because of concerns regarding reporting.”

Private sector companies have a particular problem in recognising how their for-profit operations may serve social purposes as well as general corporate ones.

That is partly why the social and sustainable bond market is still dominated by public sector development banks, which are seen as low hanging fruit in the market because of their obvious social aims.

“For the social bond market to catch up with the green bond market we need corporates to get involved,” says Mirova’s Wigley.

There have been notable examples already. In March, French food products company Danone sold €300m of new bonds financing a range of projects aligned to the Social Bond Principles, including supporting responsible farming and funding research into malnutrition and oncology.

Starbucks has now also sold a number of sustainable bonds aimed at reducing its social and environmental impact on its coffee supply chain.

That is not to mention growing interest from the global banking sector. In Spain, where issuers have been at the forefront of both public and private sector social bonds, BBVA has created an issuance framework for green, social and sustainable bonds.

But these examples are still too few and far between.

ING’s Mitroi says DCM teams within banks play a unique role in providing a link between the different departments of their client companies to help them understand how they might become active. “The process of issuing a social bond transcends the finance department and so it needs to connect the whole organisation,” he says. “We want companies to be able to translate what they are already doing into elements that might be relevant for social financing.”

Social is climbing

It is not enough just to get more issuers involved in the social and sustainable bond market. Investors must also have a way of rationalising these investments within their portfolios.

The development of the Social Bond Principles has been very helpful in this field, but there are continuing efforts to create a better link between investors and investments.

“As we have seen the Social Bond Principles becoming more mature, we have also seen a broader support for social bonds among investors within the SRI market,” says Rabobank’s Brugman. “They want to know what their money is doing and they have needed further clarification on this front.”

In June, ICMA published a framework allowing SRI issuers and investors to evaluate their bond issues against the UN’s Sustainable Development Goals, a globally recognised set of 17 areas for social and environmental improvement.

The framework overlays the SDGs with categories in the Green Bond Principles and Social Bond Principles, as well as giving examples of potential impact indicators.

“We have seen a wide range of investors embed the SDGs into their investment strategies,” says ING’s Mitroi. “ICMA’s work in mapping the Social Bond Principles against the SDGs has therefore been very helpful in creating a tool for identifying eligible projects. 

“Everybody is cognisant that in order to define social investments, you first need a proper taxonomy.”

An increasing trend for issuers to link their own deals to the SDGs has added a further element of simplicity to the task of creating a mutually relatable system of recognition for social and sustainable investments. 

“I’m amazed at how well the SDGs have worked as a communication tool for corporate reporting as well as in bond frameworks,” says ABN Amro’s Ligthart.  “It is good to see some more standardisation in terms of mapping the SDGs to eligible project categories, so I certainly welcome the recently published guidance from ICMA on this topic.”

Nonetheless, social and sustainable bonds are still yet to move away from being a secondary consideration in the minds of the majority of investors looking at environmental, social and governance issues.

An ICMA survey of 51 members of the buy-side for SRI bonds earlier this year, showed only 15% had a dedicated fund for social bonds versus more than 45% for green bonds. Part of the problem remains the lack of potential for diversification in the social bond market, says Mirova’s Wigley.

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“Because the market is dominated by multilateral development banks, the credit spread available on social and sustainability bonds is hardly sufficient to cover the costs for an asset manager looking to launch a dedicated fund,” he says. 

“That is another reason why we need more corporates to issue in these formats.”

As social bond issuance builds, participants will start to benefit from all the spoils of being involved in a more mainstream market. That includes developing a better system of metrics allowing investors to track the size and performance of the social and sustainable bond sector.

“We have been having conversations with some index providers like MSCI to target social bonds and market data providers like Bloomberg to tag these issues,” says Ico’s Robledo, who is also a member of ICMA’s Social Bond Working Group.

Robledo says work in this field should start with building a sustainability bond index, including both green and social bonds. Once enough issues have come to the market, the idea would then be to build a social bond index on a standalone basis.

“We should reflect what is happening with the development of the social bond market,” he says. 

Social and sustainable bond issuance has soared since the introduction of the Social Bond Principles in 2016. Global issuers sold about $10bn of social and sustainability bonds in 2016. The figure was more than doubled in 2017 and has already been exceeded again this year.

“The investments needed are staggeringly high,” says Mitroi at ING. “The social agenda will grow to be much larger than the green agenda.”

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