GREEN BOND- THE TIME HAS COME

Chancellor Rishi Sunak has recently made various announcements on green finance. One of them generated a lot of buzz– the green government bond. What exactly is a green bond and how does it differ from typical gilts?

By Timothy Wong.

10 January 2021 (2 months ago)

A BRIEF INTRODUCTION AND HISTORY

just like other standard bonds, a green bond is a fixed–income instrument. It is specifically designated to raise money for climate and environmental project. This bond is commonly asset linked and backed by the issuing entity’s balance sheet, thus they usually carry the same credit rating as their issuer’s other debt obligations. Green bond is also referred to as climate bond dating back to the first decade of the 21st century.

Diving further into the topic, green bonds finance projects with focus on energy efficiency, pollution prevention, protection of aquatic and terrestrial ecosystems, cultivation of environmentally friendly technologies and mitigation of climate change. With tax incentives such as tax exemption and tax credits, green bond is definitely a more appealing investment compared to comparable taxable bond. However, to qualify for green bond status, green bond is often verified by a third party such as the Climate Bond Standard Board to certify it will continuously fund projects that benefit the environments.

Looking back to the past, 2009 is the year the World Bank issued the first so-labelled green bond for established investor. The 2010s saw the rapid progress of green bond funds, expanding the ability of retail investors to engage in these initiatives. HSBC, Blackrock, Allianz SE and Axa SA are among the investment companies and asset management firms that have sponsored green bond mutual funds or ETF (exchange-traded funds). In 2017, the peak of green bond issuance had been observed. A record high of $161 billion worth of investment was reported by the rating agency Moody’s and the growth of green bond has not stopped since.

BRITAIN’S FIRST

Sunak’s announcement marked the arrival of the first ‘green’ government bond next year, in a bid to capitalize on increasing investor interest in assets designed to fund environmentally friendly ventures. It was also seen as a change of tack as Britain gets ready to host a United Nations climate conference next year.

Even though the green bond had a 3.5 per cent of global bond issuance last year, the Britain’s Debt Management Office is still prudent about green bonds, worrying that investors might demand a higher return for bonds that are issued in small volumes and are less liquid than typical bonds. There is no surprise or mystery behind it as it is just a simple matter of demand and supply. On the demand side, asset managers and pension funds have increasingly large mandates to purchase green bonds. A group of 30 major investors with more than £10 trillion assets under management collectively called for the UK Government to launch a green sovereign bond to ensure adequate funding is put behind its mission to deliver a “green” Covid-19 recovery. In contrast, few governments have issued green bond. In particular, Germany, the euro zone’s benchmark issuer of government debt, only just entered the green bond market for the first time in September, selling €6.5 billion of 10- year debt and is currently planning a five-year bond for November.

To facilitate the government’s allocation of funding raised through the bond, the Treasury has outlined a commitment to implement a green finance taxonomy, similar to that being developed by the EU. This taxonomy defines which activities can be defined as “green” and is aligned with the UK’s long-term climate targets.

On the other hand, the Bank of England also welcomed the announcement of green bond and will conduct its first climate change stress test on financial institutions in June 2021, which Governor Andrew Bailey said would encourage bank and insurers to assess if they had sufficient capital set aside to handle potentially existential threats to some investments.

CONCLUSION

Traders, investors and sustainability professionals are optimistic about the future of the green bond market. There might be a slowdown in growth rates in green bond issuance during the COVID-19 lockdown period. Nevertheless, the market is still robust, and dynamics and incentives to issue will remain after the crisis. With UK issuing its first government green bond, the time for green bond to solidify its existence further globally has finally come.

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