Green Bonds - Bank of America Merrill Lynch
Wednesday, December 7th, 2016
Adding colour to bonds
The green bonds market has been gaining major attention recently on the back of a period of rapid growth. In 2016 alone, there was close to $60B in green bond issues worldwide.
Suzanne Buchta and Martin Mills of Bank of America Merrill Lynch (BAML) - the #1 underwriter of green bonds - were on London Business School campus early in December to speak about these investment vehicles to LBS students and alumni. BAML was part of over $6B in green bond issues last year, most notably, a $1.5B issuance by Apple Inc.
In basic terms, a green bond is a bond instrument where the proceeds are exclusively used to finance new and existing ‘green’ projects. A green project could be anything from the development of new renewable energy generation capacity, to energy-efficiency projects, to full green building projects.
Green bonds are an essential part of the toolkit to fight climate change
In most cases, the fact that a bond is green can be seen as an attractive feature, however, this ultimately does not impact the pricing of the bond – they are priced on par with an equivalent “vanilla” bond. In these cases, risk evaluation is standard: based on the issuer’s credit risk with the usual full recourse to the issuer.
Some green bonds take the form of project bonds where recourse is limited only to the project’s assets. To reduce the risk of a single project bond, sometimes groups of projects will be combined into a single, securitized bond issuance.
The growth of green bonds has partly been facilitated by big investors and regulators taking a stance on climate change. For example, Blackrock has issued a Climate Change Warning suggesting that investors should be considering environmental measures alongside their normal investing approaches. Lending credence to the vehicle is also the fact that the major rating agencies have introduced their own methods for evaluating green bonds.
While the consensus opinion is quite optimistic on the future of green bonds, some problems still remain. Foremost among them is that there is no binding agreement to force the issuer to put the proceeds towards green projects. In case of such a breach, it is unclear that there would be legal grounds upon which to challenge the issuer. This could pose a serious threat to environmentally-minded investors’ confidence in green bonds which is currently solely based on a level of trust between issuer and investor.
One area to watch, says BAML, is project financing via green bonds, which has not yet taken off. We may see wider application in the future but until then, we will have to stay tuned.