By Oliver West, Lewis McLellan and Jon Hay
Governments are moving enthusiastically into the green bond market, even as some seasoned issuers have moved away from the product. Uruguay has become the first sovereign issuer to say it is considering a ‘second generation’ structure.
“We think there is room for financial innovation in sovereign debt markets that takes a more comprehensive view of ESG, rather than just the ‘E’ part through green bonds,” said Herman Kamil, Uruguay’s head of sovereign debt management (pictured).
Poland was the first country to issue a green bond in 2016. Since then 10 others, from France to Fiji, have issued.
More are coming. Chile’s dollar and euro deals in June attracted dozens of new investors and the euro notes were priced 5bp-10bp through its curve. Other Latin American treasuries have been seeking Chile’s advice.
Mexico and Colombia may be the most likely followers. There are obstacles, though.
One is the bifurcation of investor bases. Domestic investors in emerging markets often have not got far in considering environmental, social and governance (ESG) issues. They would buy green bonds, but might not attach particular value to them, bankers fear. International investors with ESG strategies, however, often are not ready to buy credit from frontier markets.
“We would like to issue green bonds, but we’re committed to issuing benchmarks of between €1bn and €1.5bn and it’s not feasible for us to source that many environmentally friendly assets to fund,” said Marjan Divjak, director-general of Slovenia’s debt management office. “However, Slovenia is committed to the Sustainable Development Goals and becoming an environmentally friendly country. Those policies are more important than the green bond market.”
There is interest in north Africa. Morocco and Egypt have been exploring the idea for some time. The Egyptian cabinet approved the issuance of green bonds at the start of the year, intending to issue in the first half of the year.
However, a spokesperson for the Ministry of Finance said: “We are still studying the project that we will start with and also identifying the right time for this issuance.”
“We’re really interested in green bonds,” said Marouane Abassi, governor of the Central Bank of Tunisia. “Tunisia faces huge problems of water scarcity, exacerbated by climate change. We need to be on the front line of this, taking advantage of the resources offered by the new financial pool.”
Bangladesh is exploring the concept, but not ready to go yet. In Europe, Germany and Sweden have formal policies to issue green bonds next year, while finance ministers in Italy and Spain have said they will.
Yet some sustainable finance issuers are looking beyond the product. The World Bank issues Sustainable Development Bonds which ‘highlight’ certain issues but do not have a segregated use of proceeds.
In September, Enel, the Italian power firm, issued ‘sustainability-linked bonds’. The proceeds are not earmarked for green spending, but Enel will pay a step-up coupon if it fails to increase its renewable generation share to 55% by the end of 2021.
Enel believes these bonds are better at drawing investors’ attention to its sustainability strategy. It has issued three green bonds in the past but will not sell any more, or even normal bonds — just sustainability-linked ones. Some investors are disappointed, but most like the new product.
There is logic to this: green bonds do not protect investors from the risk or reputational taint of anything the issuer does, even outside its green bond asset pool. An ESG approach considers the whole organisation.
Uruguay is leaning this way. Banks and multilateral banks have pitched it green bonds, and it is considering that as an option in the next two years.
“However,” said Kamil, “we would like to explore avenues to integrate the overall ESG matrix in our funding strategy, in a way that makes the most out of Uruguay’s steady progress on these indicators.”
Uruguay, which now tops JP Morgan’s ESG-adjusted EMBI index, has been exchanging ideas and engaging with US and European investors to understand the frameworks they use to analyse ESG factors. The debt management team plans to do the same with Asian investors.
“There is no consistent framework for sovereigns to date, but this is likely to evolve quickly as best practices become more established,” said Kamil. “Multilaterals have an important role to play here, in our view."
“We need to think about if there is room for an ESG-linked bond, how you could cater to investor demand for impact investing, how to align incentives between borrowers and investors, and how you would design ESG indicators,” said Kamil.