Sovereigns from the Latin American region have been at the forefront in the innovation of the environmental, social and governance bond market. They could be set to bring further creativity to the market with biodiversity-labelled bonds and bonds with key performance indicators linked to social causes.
‘In the same ways we’ve seen social and the use-of-proceeds side from Latin America being an important area, I do think we’re going to see some development on that in the sustainability-linked space,’ said Richard Sanders, director of sustainable and positive impact finance at Societe Generale. Sanders was speaking at the virtual Latin America and Caribbean public sector debt outlook event hosted by OMFIF’s Sovereign Debt Institute.
‘I also think that Latin American sovereign issuers as a whole have an opportunity in biodiversity… so I would like to think that we’re going to see some issuance in that space as well,’ added Sanders.
Latin America has led the way in introducing social bonds and sustainability-linked bonds for sovereign issuers. Ecuador brought the world’s first sovereign social bond in 2020 before Chile brought the world’s first sovereign SLB last year.
Biodiversity bonds are also gaining in interest, with the World Bank issuing its so-called ‘rhino bond’ last year. Investors in that bond will not receive coupon payments – the World Bank will instead make conservation investment payments to finance rhino conservation activities. Meanwhile, the International Finance Corporation has added biodiversity projects to its green bond framework to allow it to fund projects in this area.
‘There’s been a tremendous amount of interest from the Latin America region,’ said Peter Borgesi, vice president, debt capital markets at Societe Generale, on sovereign social KPI-linked and biodiversity bonds. ‘A number of other regions have also expressed a significant amount of interest in both of these categories. The debate continues about what is most appropriate for each country and, in many cases, use of proceeds is more relevant or the right option versus KPI-linked securities.’
Sovereign SLBs have not really taken off since Chile and Uruguay sold the first such bonds last year. However, Costa Rica is planning to issue SLBs as it looks to make its debut in the ESG bond market in 2023. Meanwhile, Ghana has developed an ESG bond framework which includes the issuance of SLBs. But there are no signs of developed market sovereigns issuing in this area despite growing interest in the product.
‘One of the big issues with SLBs is… the idea that the KPIs have to be a substantial departure from business as usual,’ said Alfredo Mordezki, head of Latam fixed income at Santander Asset Management. ‘So issuers have to be very ambitious on their sustainability performance targets. That was the idea when it was created. It’s quite difficult for us as investors looking at many different names and many different industries to really understand if this target is a substantial departure from business as usual or if it’s not.’
Mordezki commended Chile and Uruguay for their SLB transactions as they linked their KPIs to nationally determined contributions, which he said is ‘a big departure from business as usual’.
Brazil, however, will not opt for an SLB format for its debut ESG issuance. ‘We are leaning towards sustainable bonds – green plus social – and a use-of proceeds-format,’ said Otavio Ladeira de Medeiros, public debt undersecretary at Brazil’s national Treasury, adding that they are nearing the end of developing their framework. Brazil has been working on developing an ESG framework with the World Bank and the Inter-American Development Bank, with plans to bring the deal to the external market in 2023 after being absent in 2022 due to volatility.
De Medeiros said one of the main reasons for issuing ESG bonds was to develop a liquid yield curve to help other Brazilian issuers enter this market. SLBs are not likely to be helpful in this respect due to there being more volatility with SLBs than with use-of-proceeds bonds.
The sustainable bond framework will give Brazil the flexibility to fund social projects as well as those for the environment, given the lack of projects available for green financing. Some market participants say that a Brazilian green bond would raise ‘greenwashing’ concerns as Brazil has failed to make progress on its deforestation commitments in relation to the Amazon rainforest.
Jamaica is also working on a green bond framework – not for its own issuance, but rather for the private sector. ‘The Jamaica Stock Exchange and the government are partnering to create a framework and platform for private institutions to issue green bonds starting next year,’ said Dian Black, principal director, debt management at Jamaica’s ministry of finance. ‘The process is far advanced and they intend to have the regulatory and institutional framework in place by the end of this year so that institutions can issue the green bonds across the stock exchange’s platform,’ added Black.
Burhan Khadbai is Head of Content, Sovereign Debt Institute, OMFIF.