Climate bonds are fixed-income financial instruments (bonds) linkedto climate change solutions.They are issued in order to raise finance for climate change solutions, for examplemitigation oradaptation related projects. These might be greenhouse gas emission reduction projects ranging fromclean energy toenergy efficiency, or climate change adaptation projects ranging from buildingNile delta flood defences to helping theGreat Barrier Reef adapt to warming waters.
Like normalbonds, Climate Bonds can be issued by governments, multi-national banks or corporations. The issuing entity guarantees to repay thebond over a certain period of time, plus either a fixed or variable rate of return[1].
Most Climate Bonds are use-of-proceeds bonds, where the issuer promise to theinvestors that all the raised funds will only go to specified climate-related programs or assets, such as renewable energy plants or climate mitigation funding programs[2].We want investorsto know that they are investing in climate change solutions.
Some bond types are obviously use-of-proceeds bonds:
- Project bonds - where the money is in an separate company or special purpose vehicle (SPV) for a particular project.
- Asset-backed securities - where the money is for a portfolio of cash flows that are securitised in one bond, such as a portfolio of loans to renewable energy projects.
- Covered bonds - where the investor has dual recourse to the issuer balance sheet (typically a bank) and also a pool of assets that are high quality (usually mortgages too).
Corporate bonds are not generally use-of-proceeds bonds; the company is free to use the funds as they see fit. However, use-of-proceedsclimate bonds, using the model the European Investment Bank pioneered for their Climate Awareness Bonds, allow corporations to issue a corporate bond in terms of creditworthiness, but to interest thematic investors by agreeing to verifiably invest those funds in climate change related activities.
Astheme bonds[4], Climate Bonds aresimilar torailway bonds of the 19th century, the war bonds of the early 20th century or the highway bonds of the 1960s. Theme bonds are designed to:
- Allowinstitutional capital - pension, government, insurance andsovereign wealth funds - to invest in areas seen as politically important to theirstakeholders that have the same credit risk and returns profile asstandards bonds
- Provide a means for governments to direct funding to climate change mitigation. For example, this might be done by choosing to privilege qualifying bonds with preferential tax treatments
- Send a political signal to other stakeholders
Otherwise, for operational purposes, theme bonds largely function as conventional debt instruments. They arerisk-weighted andcredit rated in the usual way based on the creditworthiness of the issuer, and tradable, market conditions permitting, ininternational secondary bond markets. These instruments can theoretically be issued at all levels of thefixed income market, from sovereignto corporate.
References
- ^ Environmental Theme Bonds: a major new Asset Class brewing, excerpt from Sustainable Banking – Risk and Opportunity in Financing the Future, edited by Joti Mangat, published by Thomson Reuters 2010
- ^ Mathews, Kidney, Mallon, Hughes. Mobilizing private finance to drive an energy industrial revolution.Energy Policy 38 (2010)
- ^ Mackenzie, C and Ascui. F. Investor leadership on climate change: an analysis of the investment community’s role on climate change, and snapshot of recent investor activity. Published by the UNEP Finance Initiative and UNPRI, 2009.
- ^ Iggo, C.Climate Bonds: a major new asset class brewing. Published by AXA Investment Managers
