Green bonds - a real alternative

This article was originally published in Icelandic in Vidskiptabladid, the business weekly in Iceland. This was a follow-up article, previous one published here.

In June 2017 Apple issued a USD 1 billion bond. The issuance caused a considerable discussion due to the fact that it was a green bond. Apple had, however, previously issued such a bond, in February 2016, worth USD 1.5 billion.

The scientific community has reached a consensus that climate change is happening at a rapid speed. And that, therefore, considerable capital is needed to fund projects that are intended to halt this speed and adjust society to a changing climate.

There are certain projects that are most commonly mentioned in this context, e.g. change in energy carriers to lower the share of fossil fuels within the transport sector. But there are several different ways in which investors can approach good return as well as pave the way towards sustainability.

Green and sustainable bonds

Green bonds are essentially vanilla bonds, i.e. regular bonds, but do need to fulfil certain criteria in respect to transparency and the use of proceeds. The issuer is required to use the proceeds for pre-defined projects that are intended to reduce CO2 emissions or other polluting factors as well as needing to report on the progress of the reduction.

It is also possible to issue bonds that are intended to fund social projects, so-called ‘social bonds’, e.g. to increase access to social housing. Those have been issued on a much smaller scale as opposed to green bonds, at merely 5% of the global total issuance of green bonds, based on 2017 figures.

Nasdaq makes three requirements for listing green bonds on its exchanges. (1) Proceeds shall be used for projects that have environmental benefits, e.g. reduce pollution, (2) a third party shall review the underlying projects, e.g. assure that the projects have been studied with their environmental impact in mind and that the bond funds will surely reduce environmental impacts, and (3) progress reports shall be accessible and state, for example, how the project has reduced emissions, pollution or positively affected other ESG factors. In this respect compliance to international standards has to be carefully monitored.

Cicero, a Norwegian NGO that provides third-party reviews on green bond issuances has identified Life Cycle Assessment (LCA) as the leading methodology to be used when evaluating projects’ environmental impacts.

Several projects that have been discussed in Iceland that could be financed with green bond issuance. For example, installation of charging posts for electric cars, electrifying the transportation sector and power plants using renewable energy such as Landsvirkjun has done. Infrastructure can also be financed for alternative energy use, both for the public, but also the industrial sector (i.e. the fishing sector) Erection of buildings can also be financed in this way, given they are more energy efficient or provide housing for low-income groups.

Green bond issuance is fast growing. Total estimate issuance for 2017 was USD 160 billion. Exchanges have begun providing special listings for such instruments, e.g. Oslo in 2015, Stockholm, London, Mexico, Luxemburg, Italy, Shanghai, South Africa and the latest one being Tokyo in January 2018.

Common questions from investors are if green bonds have a better return than regular bonds. A new academic study from the Erasmus School of Economics, and the first one comparing the return of green bonds against regular bonds indicates that green bonds provide better returns, in general. This is a very important information and worth looking further into.

This may be a factor explaining why the demand for green bonds is so high. The bonds do not only finance environmentally positive projects but the investor return also seems to be no worse than from similar non-green instruments.

Landsvirkjun, the National Power Company of Iceland, was the first issuer of green bonds in Iceland. The bond carried 4,14% interest rates with semi-annual coupon. The demand for the bond was seven-fold based on the initial USD 100 m issuance.

Landsvirkjun stated that the proceeds shall be used to finance the construction of Þeystareykir geothermal power plant and the expansion of Búrfell hydroelectric power plant.

Ørsted, Denmark’s largest energy company issued a green bond worth approximately USD 1,4 billion, adding investment options for investors who are interested in investing in its sustainability endeavours.

What did Apple do?

In 2016 Apple issued a green bond for USD 1.5 billion. In 2017 it issued another one for USD 1 billion shortly after the US announced it would withdraw from the Paris Agreement.

The interest rates of the latter bond were 2,85% with a semi-annual coupon. Moody’s rated the bond with Aa1 and S&P AA+.

It is interesting to note that 44% of the green bonds’ investors were classified as investors only investing in green financial instruments. According to Apple, its objective with the green issuance was to attract a wider group of investors which focus solely on green investments. The issuances should, therefore, be considered a successful strategy.

Picture. Snapshot from Circular Solution’s web-based system. Showing real figures from Apple bond issuances.

Apple issues regular progress reports in which the environmental benefits from the green bonds are highlighted. In the latest one, it states that projects funded with the proceeds from the green bond issued in 2016 reduced carbon emissions by approximately 439.100 tonnes. The projects underlying the latter bond, issued in 2017, has hereto reduced carbon emissions by approximately 15.100 tonnes.

In conclusion, green bond issuances to finance projects with a clear environmental focus is a very interesting financial instrument. Not only for issuers that want to contribute to positive progress towards sustainability but also for investors who want to invest in such instruments.

Dr. Reynir Smári Atlason, Co-founder of Circular Solutions

Bjarni Herrera Thorisson, CEO of Circular Solutions