Green bonds: the disappearing greenium is a welcome development

Green bonds are heading towards normalisation. The “greenium” — a yield discount that investors in green paper accepted compared with identical non-green bonds — has been shrinking. Its demise signals maturity for the sustainable debt market.

Total issuance of green debt fell last year to November, from a peak of $1.5tn in 2021 to some $1.2tn, according to consultants BNEF. It is the first year that a decline has been recorded. For the past couple of years bonds with environmental targets or links to social projects have been criticised as lacking ambition or doing more for a company’s reputation than the causes they support.

However, the downturn in green bond issuance this past year is connected to a wider bond market phenomenon. No one — green or otherwise — wanted to lock in 2022’s high credit costs if avoidable.

In key markets, ESG-linked debt instruments have gained share. Of the debt issued by European investment grade companies, 30 per cent was green in 2022, more than triple that of 2020, according to Barclays analysis.

The change in issuance and market share has led green debt to price roughly in line with its counterparts. The discount companies get when issuing it — always a complicated calculation — has shrunk from a peak of 15-20 basis points to low single digits, or even zilch.

That compression makes sense. The greenium was only ever a scarcity premium for a new kind of debt that tapped into the wave of green money that asset managers were desperate to deploy. Investors in these credit instruments get exactly the same risk profile as their grey cousins. Both sets of bondholders are repaid from the same corporate pot.

The bonds are green insofar as their proceeds are used to finance green projects. The alternative is sustainability-linked — a newer iteration — that charges more if companies fail to meet their ESG targets.

Green bonds have been a force for good — pushing companies to allocate capital to sustainable projects and giving them an extra incentive to cut carbon, or plastic, or food waste. The product made green bondholders a rarity in corporate finance: investors willing to give up returns.

Longer term, the bonds will cease to exist as a separate asset class. All debt issued by a company with strong ESG credentials should, in theory, be “green”. Companies such as Iberdrola are leading the way — earmarking basically the whole of last year’s issuance as green. Original climate-conscious bondholders deserve credit for kick-starting this market.