From the ashes
COVID-19 has spurred record volume of social-bond issuance and some sustainable-finance experts believe the crisis will be the catalyst for much more widespread adoption of the instrument. Despite the best efforts of advocates, however, the hurdles to habitual use of social bonds, especially in the private sector, remain high.
Laurence Davison Head of Content and Editor KANGANEWS
Until 2020, social bonds were very much the baby sibling of the much larger green-bond market – but until 2020 no-one realised COVID-19 was going to change markets, economies and societies forever. Things have changed dramatically inside half a year, and some believe social-bond issuance could be at the start of a major boom.
The green-bond market has certainly developed more critical mass over the past decade. Environmental Finance data suggest combined global green, social and sustainability (GSS) bond issuance had surpassed US$1 trillion equivalent by June this year, with around 90 per cent of the total comprising green bonds. The recent surge in social-bond deal flow has taken total issuance through the US$100 billion barrier, though, while sustainability bonds are still only beginning the path to widespread use.
It seems likely that at least a third, and perhaps close to half, the all-time total of social-bond issuance has come to market in 2020. Bloomberg New Energy Finance estimates aggregate social-bond issuance at a somewhat smaller US$83 billion equivalent but pegs H1 2020 volume at nearly US$40 billion (see chart).
Social bonds have also dominated Australian GSS issuance in 2020, but only in the loosest sense of the term. After a record year in 2019, when more than A$10 billion (US$6.9 billion) of GSS bonds came to market, the first half of this year seemed to cause local issuers to place GSS bonds in the too-hard basket.
Just A$1.3 billion of GSS bonds printed in Australia in H1 2020 and only one transaction – a A$562 million social bond from National Housing Finance and Investment Corporation (NHFIC) – came from a domestic issuer. The rest of the volume was issued by international supranational, sovereign and agency (SSA) names.
To date, just three issuers have dipped their toes in the water of the Australian social-bond market, for less than A$3 billion. To say the sector has room for growth would be an understatement.
There has been no social-bond issuance in New Zealand, though Kainga Ora – Homes and Communities conducts all its issuance under a “wellbeing bond” framework that effectively combines social and environmental aspects.
It took some time for Australasian issuers to climb aboard the green-bond bandwagon, too. World Bank issued the first green bond globally in November 2008. The same issuer opened the Australian market in April 2014 and the first green bond from a domestic issuer came from National Australia Bank in December the same year. International Finance Corporation (IFC) printed New Zealand’s first green bond in July 2017 and Kainga Ora – then under its former branding of Housing New Zealand – opened the door to domestic issuance 11 months later.
Global social-bond issuance has exploded in 2020 – and COVID-19 is the cause. An S&P Global Ratings report published in June says April this year was the first month ever in which social-bond issuance surpassed that of green bonds.
Simone Utermarck, director, sustainable finance at International Capital Market Association (ICMA) in London, tells KangaNews roughly 70 per cent of 2020’s social- and sustainability-bond issuance references COVID-19 in some way. “We have seen a surge in social-bond issuance this year, especially with a COVID-19 theme. The pandemic is rather a ‘sad catalyst’ but it is great to see the SBP-aligned social-bond instrument being used for this purpose,” she comments.
The immediate driver is the funding governments, subsovereign agencies and multilateral development banks (MDBs) in particular are taking on, at frenetic pace, to fund pandemic recovery. The scale of this funding task is impossible to estimate as the crisis continues to unfold, but it is sure to be vast.
To take one example, Joanna Silver, head of sustainable finance at Westpac in Auckland, says the latest estimates are that even in New Zealand – perhaps the world’s best performer in the immediate public-health phase of virus management – government net debt could grow to 50 per cent of GDP from 20 per cent by 2023 purely as a result of COVID-19 stimulus.
This seems entirely plausible. New Zealand Debt Management disclosed a sixfold increase to its 2020/21 borrowing programme in May, with the new figure of NZ$60 billion (US$38.9 billion) also being three times greater than any previous New Zealand sovereign funding requirement.
Silver says: “COVID-19 has real parallels with climate change, just with greater urgency. The green-bond market supports the financing of an existential human threat – and we now have an even more pressing social and economic threat that needs addressing. We have a tool to do it, in the form of the social bond.”
While the immediate consequences of COVID-19 are horrific – the first-order death and health toll, of course, but also the devastating economic impact of protracted lockdowns and social-distancing measures – they will not be the pandemic’s only societal impact. Many believe social structures will change forever, including areas as significant as where people work and live, and how frequently and by what means they choose to travel.
Silver’s comments hint at the fundamental source of excitement about the role social finance could play. If the world is at least approaching consensus on the vast investment required to counter and mitigate global warming, perhaps it is also at a tipping point when it comes to understanding how a similar allocation of capital could change social conditions for the better.
COVID-19 could be the catalyst needed to give social issues the same prominence as environmental ones. Denise Odaro, head of investor relations at IFC in Washington and chair of ICMA’s social bond principles (SBP) working group, says: “COVID-19 is tragic but it is also an opportunity. It is like turning on the lights at the end of a party – it allows us to see the wreckage of the preceding hours. In this case, it represents a paradigm shift for social bonds.”
Embedding a social aspect into sustainable finance is also a focus in Australasia specifically. For instance, while the EU’s green-bond taxonomy, as its name implies, focuses almost exclusively on environmental outcomes any forthcoming Australian equivalent is likely to incorporate a social angle from the outset.
Katharine Tapley, head of sustainable finance at ANZ in Sydney, says the Australian Sustainable Finance Initiative (ASFI) is looking at social issues on an equal footing with environmental ones. The idea is not to deliver a local methodology for calculating the impact of social bonds but to introduce harmonisation language around social assets as a starting point.
ASFI’s approach is designed to align with how the Australian market and businesses are thinking more generally. Mark Peacock, Commonwealth Bank of Australia’s Sydney-based head of sustainable finance, says local big business is evolving its environmental, social and governance (ESG) thinking to reflect a greater emphasis on the social component.
COVID-19 is playing a role, but it is not the only factor. Peacock explains: “The pandemic has brought social finance to the front of mind, particularly in connection with things like the significance of healthcare systems and the impact of high unemployment on housing and welfare. But I think the Modern Slavery Act was a also major catalyst for boards, including the requirement on large companies to report on the social impact of their actions.”
There should therefore be plenty of appetite on the issuer side for the type of funding social bonds can provide. In fact, all else being equal there should be every reason to think the social-bond market could rapidly catch up with and even overtake green bonds. Unfortunately, all else is not equal.
One of the major challenges for social bonds has historically been the relative complexity of defining, measuring and reporting positive impact from underlying projects. To compare with green bonds, it tends to be easier to quantify emissions than the type of outcomes issuers might look to fund with a social bond.
“One of the most important factors for investors is impact, and this is not as easy to measure in the social space,” Utermarck acknowledges. “We have done a lot of work in this respect, including updating the SBP to define social issues and providing examples of output, outcome and impact in the harmonised framework for impact reporting for social bonds.”
The recent spike in interest in social bonds has coincided with a major update to the SBP, which ICMA published in June this year. A key goal of the update was to ease the path to market for issuers, including in the impact measurement and reporting area, while maintaining the rigour of the asset class (see box). The degree of impact the update will have remains to be seen. But ahead of the update’s adoption there can be no doubt that bringing a social bond to market represented more of a challenge to new issuers than the equivalent process in the green space.
NRW.BANK made its social-bond debut at the end of June this year with the print of a €1 billion (US$1.1 billion) 15-year line. The issuer’s social-bond programme aligns with five of the UN Sustainable Development Goals (SDGs): no poverty, quality education, decent work and economic growth, reduced inequality, and sustainable cities and communities.
All of these individual SDGs align with NRW.BANK’s mission as the development agency for the German state of North Rhine-Westphalia. Even so, its Düsseldorf-based head of investor relations, Frank Richter, notes the additional complexity involved in delivering a security that met investor expectations.
“Social is less straightforward,” Richter admits. “Of course ICMA’s SBP give a lot of advice and good guidance to identify social loans and the targeted population behind them. Even so, impact reporting is much more challenging than green. Data availability is weak and KPIs are not as sharp as on the green side.”
For NRW.BANK, the aim is to start the process then work to refine it over time. The challenges do not disappear with experience, however. IFC has been in the social-bond market since 2017 and had issued nearly US$3 billion equivalent in the format even before COVID-19. But Marcin Bill, senior financial officer – funding at IFC in Washington, says it remains a “much more complex matrix of indicators for social bonds than it is for green bonds”.
This has not stalled IFC’s ambitions. In the COVID-19 recovery sphere alone, the supranational sees social bonds as a way of funding projects as diverse as vaccine R&D, support for employment in the SME space, adaptation of processes in the manufacturing sector and production of healthcare supplies.
Australian and New Zealand issuers have a rare opportunity to take leadership in an evolving market. Kainga Ora is grasping the nettle with its ambitions to be a trailblazer in impact reporting. “We don’t want our impact measurement to be a case of producing a report once a year and considering ourselves done,” says Sam Direen, treasurer at Kainga Ora in Wellington. “We see it as a massive opportunity to take a leadership role – to make other issuers want to follow us.”
The agency is facing the same central challenge of measuring and reporting impact in the social space as all social-bond issuers. But its commitment goes beyond identifying quantifiable factors that satisfy standards such as the SBP. The easier path to achieving this goal would be to look for outputs. Kainga Ora, by contrast, is exploring reporting related to outcome.
Jason Bligh, senior treasury manager at Kainga Ora in Wellington, explains: “An output could be building a target number of social or affordable houses to a certain [New Zealand Green Building Council] Homestar rating whereas a social outcome would be measured over time to assess whether the targeted social benefit has been achieved. This can be complex when considering multilayered projects, programmes and cross benefits.”
Appropriate indicators need to be well considered and benefits defined, Bligh adds – for instance how construction contributes to a thriving community, wellbeing and the extent to which this translates to better quality of life.
Kainga Ora is developing benefits-management processes directly related to its strategy and outcomes framework themes. The process will continue to evolve and become mandatory for all new programmes. It already collects data on customer-service delivery in some areas, for instance whether tenants are in financial hardship and need of assistance, or whether they are well served in response to COVID-19. But Bligh admits developing a deep and quantifiable understanding of outcomes and reporting will take time.
Elsewhere in the Australasian government sector, the growth of the social-bond market appears to be providing a more marginal appeal. New South Wales Treasury Corporation (TCorp) updated its GSS asset pool to include social as well as green projects ahead of the issue of its first sustainability bond, in November last year. But social assets are a minority of the issuer’s pool: just A$550 million, compared with a first deal that alone soaked up A$1.8 billion of liquidity.
Treasury Corporation of Victoria is contemplating following TCorp into combined sustainability issuance, while Queensland Treasury Corporation is exploring the possibility of adding a standalone social-bond programme to its green-bond issuance.
Bringing the SBP up to date
Record issuance of social bonds in 2020 has COVID-19 recovery as its most prominent driver. But International Capital Market Association (ICMA)’s social-bond working group has been sharpening guidelines since the Green and Social Bond Principles (GBP SBP) AGM in June 2019.
ICMA’s social-bond working group identified five focus areas for the following year that it believed would accelerate growth of the social-bond market.
These were to provide more guidance on impact measurement and reporting, to create case studies to illustrate eligible use of proceeds (UOP), to review and update the mapping of the SBP to the UN Sustainable Development Goals (SDGs), to review the SBP to ensure they keep up with market evolution, and to survey investor views on and requirements for social-bond investments.
The key changes in the updated SBP launched at the June 2020 AGM are a new definition of what constitutes a social issue, expanded examples of project categories used to identify UOP and adding context on target populations.
There is an even bigger question mark in the private sector. Where green investment looks like an increasingly wise move for financial institutions and corporate borrowers, social projects remain largely the domain of government entities. Put simply, it is hard to align social benefit with the profit motive.
CommBank’s Peacock acknowledges there are “a few steps to play out” before corporate interest translates into more social funding. “To get real market growth we would need to see both of issuers rethinking the assets they invest in and the buy side rethinking how it allocates funds. I’m not sure this is as red hot as has been suggested,” he comments.
It may be most accurate to view the spark provided to social-bond issuance through two lenses. For public-sector issuers, the combination of a renewed focus on social outcomes and the reality of fulfilling massively increased issuance tasks is pushing social-bond engagement right up the agenda. Even if social bonds are not yet a fully mainstream funding instrument, it is not hard to envisage substantial issuance growth in the medium term.
For financial institutions and, especially, corporates, the nature of the catalyst is more about adding momentum to an extended process of engaging more deeply with the social impact of their businesses. This could in time feed through to the funding realm but progress will likely be slower.
It should not be impossible, though. ANZ Banking Group already issues SDG bonds, for instance. Francesca Suarez-Villarica, Paris-based sustainability analyst at Natixis Asset Management subsidiary, Mirova, says: “Intrinsically, one might think social bonds can only be issued by MDBs and it is certainly easiest for them. But we have seen some issuance from private companies and we have invested in these deals. It depends on the social strategy of the company and its involvement in relevant areas.”
Suarez-Villarica encourages companies to identify things they do that could be suitable for social-bond issuance because “corporate issuers are needed to promote diversity if the social-bond market is to become as robust as green bonds”. Such projects could include investment in social housing, sustainable agriculture or specific types of R&D including in healthcare.
This should apply to Australian and New Zealand companies. Eliza Mathews, director, sustainable finance at Westpac Institutional Bank in Sydney, comments: “Some sectors could align with social-bond funding already – for instance healthcare and childcare. It is an area where corporations are involved and playing a strong role that also contributes to under-served populations being able to continue working or to live healthier lives.”
Market participants acknowledge it may be hard for bank and corporate issuers to find sufficient ready-made scale in their asset books to support benchmark social-bond issuance. This may be where the sustainability-bond option comes into play, allowing borrowers of all types to follow TCorp’s path by complementing a green asset pool with a smaller batch of social projects.
This will likely not be the only way in which issuers take their lead from the local and global SSA sector. Westpac’s Silver says issuers have to date been “a little tentative” in their engagement with social bonds, perhaps due to concern about reputational risk in a less easily quantifiable space or a greater focus on green finance given the scale and urgency of the environmental task.
But she adds: “There isn’t a shortage of capital out there. Issuers and investors can fund green and social outcomes, the UN SDGs highlight the need and the SBP contemplate and support this. We have to finance all forms of sustainable development and my view is that social and sustainability bonds will develop a bit like the green-bond market in the sense that supranational and government entities were the first movers but financial institutions and corporates will follow.”
ICMA’s Utermarck adds: “We saw the same path in the green-bond market: MDBs were the first issuers, more than a decade ago, but the market needed issuers of all types to develop scale. This includes financial institutions and corporates.”
Converting new thinking into a capital-markets relevant trend will not happen overnight, though. Kainga Ora’s Bligh tells KangaNews: “In the wake of COVID-19, we have got to a nexus point where action can reflect what the talk has been. The drive towards green and social funding is on a best intentions and best endeavours basis, though – and we have to confront the challenge that many ‘shovel-ready’ projects will be based on the old way of doing things. We need to recalibrate, and this may take time.”
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