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Better late than never: Covid bonds catch on in Japan

By Morgan Davis
18 Sep 2020

Covid-19 has fundamentally changed how the world operates — and capital markets are no exception. In Japan, it has shown the potential of the bond market to serve the common good.

The coronavirus has changed the way many of us work, perhaps for good. It has forced banks to think on their feet about how to keep capital markets open, with virtual roadshows taking the place of physical meetings and syndications from cramped apartments becoming a reality. It has also encouraged bond issuers and investors to do their best to help, leading to the rise of Covid response bonds across much of the world.

Japan may have arrived late to the party but it did, at least, arrive. Mitsubishi UFJ Financial Group (MUFG) cracked open the Covid-19 response bond market for the country in June when it sold a €500m sustainability bond, the first from Japan to be linked to the pandemic. 

The bank first updated its green, social and sustainability framework in May, under which it had previously sold seven green bonds and a social bond, to allow for the proceeds of its new euro deal to be used “to alleviate the socioeconomic impact of Covid-19 through capital markets”. 

Covid-19 response bonds have been sold by borrowers globally since early 2020 — kick-started by domestic onshore bonds in China — as a way of dealing with the damage that the virus and national lockdowns have caused on economies. 

From Japan, however, only MUFG has explicitly sold a Covid response-linked bond so far. 

A few others have sold social bonds in the domestic market that are not tagged as Covid but which have some of the funds pledged to tackling the impact of the virus. Others have sold conventional bonds but also earmarked some of the money for Covid responses. 

But expectations are high that bonds explicitly linked to the pandemic will see a big push soon — from both issuers and investors. Especially so as, even before the pandemic hit, Japanese investors had started warming up to social bonds in a way that has not been seen in other parts of Asia.

Japanese investors may be looking at other ways social bond proceeds can be used, such as for much-needed infrastructure or to help people in areas affected by natural disasters, says Sachie Ii, head of sustainable finance office, corporate finance department, at Mizuho Securities.


The right label 

More Covid-linked bonds could go a long way for Japan, which has been hit hard by the health crisis, despite a remarkable performance in containing new cases. The virus had infected more than 73,262 people by September 9, a much lower infection rate than other large economies have managed. As a point of comparison, the UK, which has a smaller population, had 354,934 cases by the same date. 

The economic numbers are, however, less encouraging. Japan reported a record-breaking 7.8% annualised drop in its gross domestic product in the second quarter of 2020.

Further, Shinzo Abe, who had been prime minister since 2012, said he would resign at the end of August, to be succeeded by Yoshihide Suga.

Because of the situation, Japan, like many other countries, is facing a long, uphill battle to get its economy back on track. Capital markets are likely to play a key role. 

It comes as little surprise that Hong Kong-based Dominique Duval, head of sustainable banking for Asia Pacific at Crédit Agricole, expects Covid-19 bond issuance from Japan to continue. The pandemic is dragging on, but when it ends, some of the economic ramifications can still be confronted through the capital markets.

The use of private capital to fight Covid seems necessary — one that Japan is quickly realising.

MUFG, for example, has plans to return to the market in September with a Covid bond for retail investors, following demand from individuals to participate in a Covid-related transaction. It will use the same updated framework to qualify the bond as a sustainability transaction.


But there are some clear reasons why issuers from the country may not seek a social label for their Covid bonds, but may instead opt to sell traditional bonds and use some of the money for Covid reasons. 

For starters, some borrowers did not have sustainability frameworks in place before the pandemic. They may be developing official frameworks now, but want to get a Covid-linked bond out in the meantime to raise liquidity, says Duval at Crédit Agricole.“The market has been very proactive and busy in developing this type of bond,” she adds. 

Others have encountered disagreement as to what qualifies as ‘social’ use. Some say that banks should only lend to micro and small enterprises — not medium or large enterprises — to qualify for a social use of proceeds. This could be difficult at a time when small, medium and large enterprises alike are feeling the pressure of the health crisis. 

This means that issuers have to walk a tightrope when it comes to finding a format that works best for their businesses, while also appealing to investors.

That was the case for Japan Student Services Organisation (Jasso). 

It raised ¥30bn ($282.68m) from an onshore social bond in May. But the issuer made sure not to market the bond explicitly as a Covid-related transaction. Instead, it said the proceeds would be used in part to support students who have been affected by the virus.

Had Jasso labelled its deal as virus-linked, it would have limited how the proceeds could be used, narrowing the pool of students who would benefit from the fundraising. But with a social deal, Jasso finds it easier explain how its bond will be used in the context of Covid.

Even without the Covid-19 angle, Jasso’s business qualifies for social consideration, says Tokyo-based Yoshiyuki Arima, its director of the fund management division, finance department.

His organisation is well known with investors for providing scholarships and financial support for Japanese and international students studying in Japan. Jasso established a social bond framework because investors said they would have an easier time justifying Jasso’s bonds as a social investment if they were labelled as such, says Arima. 

Using a social label, Covid or not, helps drum up interest in a bond, says Arima. The media covers the transaction, and investors like to advertise their participation in a sale, he says, adding that Jasso’s social bonds have attracted more interest than its conventional bonds.

It was a similar case for HU Group Holdings, a Japanese holding company focused on making and selling clinical test drugs. Previously called Miraca Holdings, the firm received more market interest because of the pandemic, chief financial officer Naoki Kitamura told GlobalCapital during a roundtable in May.

HU Group has been selling social bonds since last year, with Kitamura saying the social label attracted more interest from investors.


Investor demand

The pandemic has raised interest in environmental, social and corporate governance (ESG) in general. Investors are not just looking for social bonds to buy but are taking more care in considering how corporate actions are benefitting society.

Social and sustainable uses of proceeds can be interpreted to include a number of different projects. The United Nations’ Sustainable Development Goals (SDGs), which are often cited in sustainability bond frameworks, outline 17 categories for consideration. Each of those have a number of project options within them.

Goal number nine — industry, innovation and infrastructure — for instance, looks at innovation and infrastructure as ways to create more economic equality and the efficient use of resources. Under Covid-19, this goal can be met through investments in infrastructure to stimulate recovery or providing technology to communities that are isolated under lockdowns — not necessarily an investor’s first guess for a social use of proceeds.

Tokyo-based Haruhiro Ikezaki, head of debt capital markets division at Mitsubishi UFJ Morgan Stanley Securities, says he has seen new demand from retail investors for ESG options. “Covid-19 created new opportunities for green and social bond sales in Japan,” he says. “It affected not only businesses but the health of individuals.”

Japanese investors have been eager to embrace sustainable investing because they see it as their social responsibility, says Ikezaki. “Investor needs are rushing the issuers to sell such bonds,” he said. “A lot of companies are asking us to check if they can do [a sustainable bond].”

Retail investor demand could be a game-changer for social bonds, and Covid-19 linked bonds, in Japan.

“Before the Covid-19 situation, the Japanese retail investors were gradually becoming interested in ESG and SDGs,” says Tokyo-based Makoto Takagi, head of office of the chief financial officer, financial planning division, at MUFG. “With the onset of Covid-19, that has accelerated.”

Whether the increased investor interest could make the Covid linked bond market in Japan bigger is yet to be seen. But all the ingredients to use capital markets to fight the pandemic appear to be in place. The only thing left is for borrowers to take the plunge. 

By Morgan Davis
18 Sep 2020