“The name’s Bond…Green Bond” – green bonds, what’s in a name?


Introduction

The Pacific Islands region is one of the most vulnerable to the impacts of climate change. It is estimated that close to 20% of the region’s population could be displaced by 2050 from the impacts of climate change.[1]


To counteract the negative impacts of climate change, in October 2017 Fiji took the lead as the first developing country in the world to issue sovereign green bonds to raise funds for mitigating and adapting to climate change. This was followed by the listing of the green bonds on London Stock Exchange in April 2018.[2]


A total of F$100 million (US$50 million) has been successfully raised, with the re-opening last month raking in the final F$13 million (US$6.5 million)[3]. This was made possible through technical assistance from the World Bank and the International Finance Corporation.[4] Over the last few years, the green bond market has grown rapidly with the total issuance reaching US$155.5 billion in 2017.[5]


So, what exactly are green bonds and what makes a bond green?


What are Green Bonds?


Green Bonds are debt instruments created to fund projects that have a positive impact on the environment and climate. Similar to any debt instrument, these bonds generate interest payments to the investor over time, with the original amount to be paid back in full upon maturity.


Tax incentives are often used to direct investments to policy priority areas and green bonds are no exception, as the potential for tax credits or subsidies to bondholders can make such instruments more attractive.[6] However, given the relative infancy of the green bond market, investments in this new kind of instrument are inherently speculative.


The main point of difference which separates green bonds from plain old vanilla bonds are how the proceeds are used. For example, green bond proceeds typically fund projects that encourage (among other things) sustainability and climate resilience.


There are several types of green bonds, mainly:


  • Standard Green use of proceeds bonds – a standard recourse-to-the-issuer debt obligation which is clearly earmarked for a qualifying green project(s);

  • Green Securitised bonds – a bond which is collateralised by a qualifying green project(s);

  • Green project bonds – issued to fund a qualifying green project(s) for which the investor has direct exposure to the risks of the project (without or without recourse to the issuer); and

  • Green Revenue Bond – a non-recourse-to-the issuer debt obligation used to fund a qualifying green project(s) and where the credit exposure in the bond is to the pledged cashflows of the revenue streams, fees, taxes etc.[7]


What makes a ‘green bond’ green?


While green bonds are aimed at generating positive environmental impact, green bonds ascribe to the same processes and principles as vanilla bonds with respect to their marketing and sale. For example, green bonds must adhere to securities laws which require issuers to avoid material misstatements in a prospectus or offer document.[8] With that in mind, what makes a ‘green bond’ green?


Currently, there is no universally accepted market standard for a ‘green bond’. As a result, and due to the increasing popularity of green bonds among a growing market of socially conscious investors, in some cases the broad ambit of the term ‘green bond’ has ‘opened the door’ to exploitation and “greenwashing”.[9]


Despite this, several organisations have been developing international standards. The primary standards are the Green Bond Principles which were developed in 2014 by the International Capital Markets Association (the most recent revision occurring in June 2018) (“the Principles”).[10] The Principles are a set of voluntary standards which have been developed to enhance the integrity of the green bond market and to drive the disclosure and transparency of information on environmental projects and their estimated impact in a standardised manner. The four key components of the Principles are as follows:


  • Use of proceeds – this should be clearly described with the environmental benefits explicitly stated.

  • Process for project evaluation and selection – investors should be informed about the environmental sustainability goals, how projects will be evaluated and selected and what the eligibility criteria is.

  • Management of proceeds – the net proceeds from the green bonds should be separately accounted for to enable tracking of the issuer’s lending and investment operations for green projects.

  • Reporting – information on the use of the proceeds including list of projects to which the proceeds were allocated to and their impact.


Transparency is reiterated throughout the Principles, as it recommends issuers to opt for external verification, second-party review and third-party certification.[11] For example, in the case of Fiji’s green bond, a second-party opinion enabled Fiji’s green bond framework to be verified to ensure it fit within the Principles.[12]


Conclusion


Whilst green bonds are comparatively new financial instruments and common standards are still developing, ultimately the future of green bonds will be driven by market demand. Globally, investors with US$45 trillion of assets under management have made public commitments to climate and responsible investment which gives a good indication of the type of growth anticipated for the green bond market going forward.[13]


A growing number of climate-conscious investors, coupled with countries like Fiji who are setting the standard for best practice (particularly among emerging economies) could signal the development of a more standardised framework for the green bond market in future.


Green bonds, whether issued by governments in the Pacific or by large institutions present an opportunity, through financial instruments, for the Pacific to tackle climate change and build climate resilience.


For more information, please contact one of our team.




[1] The World Bank, “Fiji Issues First Developing Country Green Bond, Raising $50million for Climate Resilience”, Press Release, 17 October 2017, available online at: http://www.worldbank.org/en/news/press-release/2017/10/17/fiji-issues-first-developing-country-green-bond-raising-50-million-for-climate-resilience, accessed 20 August 2018.


[2] London Stock Exchange, “London Stock Exchange Welcomes The Honourable Voreqe Bainimarama, Prime Minister of Fiji and President of COP23 to Celebrate Fiji’s Landmark Sovereign Green Bond”, Announcement, 18 April 2018, available at: https://www.lseg.com/markets-products-and-services/our-markets/london-stock-exchange/equities-markets/raising-equity-finance/market-open-ceremony/london-stock-exchange-welcomes-honourable-voreqe-bainimarama-prime-minister-fiji-and-president-cop23-celebrate-fijis-landmark, accessed 20 August 2018.


[3] https://www.rbf.gov.fj/Left-Menu/Financial-Market-Operations/Domestic-Markets/Green-Bond-Prospectus/FGB-Tender-Results, accessed 20 August 2018


[4] For further discussion see, International Finance Corporation, “A Guidance for Sovereign Green Bond Issuers – with Lessons from Fiji’s First Emerging Economy Sovereign Green Bond”, 2018, accessed online at: https://www.ifc.org/wps/wcm/connect/4e657e50-a5f6-4ed8-87a0-68d3a55f0647/20180320_Guidance-for-Soverign-Green-Bond-Issuers_v1.pdf?MOD=AJPERES, accessed 20 August 2018.


[5] Climate Bonds Initiative, “Explaining Green Bonds”, available online at: https://www.climatebonds.net/market/explaining-green-bonds, accessed on 20 August 2018.


[6] Climate Bonds Initiative, “Tax Incentives for Issuers and Investors”, available online at: https://www.climatebonds.net/policy/policy-areas/tax-incentives, accessed 20 August 2018.


[7] These definitions have been adapted from the International Capital Markets Association, “The Green Bond Principles”, June 2018, available online at: https://www.icmagroup.org/assets/documents/Regulatory/Green-Bonds/June-2018/Green-Bond-Principles---June-2018-140618-WEB.pdf, accessed 20 August 2018.


[8] Aaron Franklin, “How to Minimise the legal risks of green bonds”, Environmental Finance, accessed online at: https://www.lw.com/thoughtLeadership/minimize-legal-risks-green-bonds-environmental-finance, accessed 20 August 2018.


[9] Sophia Grene,”The Dark side of Green Bonds”, Financial Times, 14 June 2015, available online at: https://www.ft.com/content/16bd9a48-0f76-11e5-b968-00144feabdc0, accessed 20 August 2018.


[10] International Capital Markets Association, “The Green Bond Principles”, June 2018, available online at: https://www.icmagroup.org/assets/documents/Regulatory/Green-Bonds/June-2018/Green-Bond-Principles---June-2018-140618-WEB.pdf, accessed 20 August 2018. See further discussion of the different bond markets and indices in Karsten Wockner et al., “Green bonds – building opportunity for issuers into programme documentation”, White & Case alert, 9 January 2018, available on line at: https://www.whitecase.com/publications/alert/green-bonds-building-optionality-issuers-programme-documentation, accessed 22 August 2018.


[11] Ibid.


[12] See Annex 2 of the Government of the Republic of Fiji Prospectus of Cash Offer, Fiji Green Bonds, 24 October 2017, “Republic of Fiji Green bond – Second Party Opinion by Sustainalytics dated 17 October 2017”, available online at: https://www.rbf.gov.fj/getattachment/e8e9607c-5d0d-4b51-9c6a-89dd58424204/Annex-2, accessed 20 August 2018.


[13] Climate Bonds Initiative, Explaining Green Bonds, available online at: https://www.climatebonds.net/market/explaining-green-bonds, accessed 20 August 2018.





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