UK Chancellor of the Exchequer Rishi Sunak announced plans for the world’s first sovereign green bonds targeted at retail investors in his 2021 budget statement last week as the UK stages a late bid to show its green credentials in the run-up to November’s influential COP 26 meeting.
The budget statement outlined a minimum £15bn of green Gilts that will be issued this year, but went further by including a far-reaching green remit for the Bank of England, and the creation of a new UK Infrastructure Bank.
The UK will issue two green Gilts in 2021, which the government says will be part of its push to create a net-zero carbon economy by 2050, funding projects such as clean transport and renewable energy.
“We are a very strong supporter of the green Gilt, it aligns very well with the government’s climate ambition,” said Caroline Haas, head of sustainable finance for financial institutions at NatWest.
The green Gilts are part of £296bn of overall Gilt issuance planned by the UK in the 2021/22 financial year that starts in April – £50bn more than forecast, as the country struggles to recover from the coronavirus pandemic.
Deals from UK issuers put the country 12th on the list for green bond issuance globally, with 71 bonds totalling US$20.6bn giving only a 2.3% market share, according to Refinitiv data.
Chinese issuers make up the largest segment with 395 bonds totalling US$128bn and a 14.5% market share, followed by the US with 301 bonds totalling US$113bn and 12.8% of the market. French issuers are third with US$92.45bn of issuance, followed by Germany at US$90.8bn.
The first green Gilts are expected to be launched in the summer, after the framework is published in June. HSBC and JP Morgan were appointed as structuring advisers to assist the Debt Management Office in late January.
The Chancellor also confirmed that the government will offer a green retail savings product through National Savings and Investment in the summer, in a first for sustainable sovereign borrowing, in addition to green finance schemes, which include plans to start a “hydrogen neighbourhood” in the north of England, and transition North Sea energy.
Despite the pledges, MPs criticised the announcement for failing to deliver a coherent plan for delivering net-zero emissions and mobilising sufficient investment in the transition. The UK Infrastructure Bank will supply £1.5bn of investment per year, according to the Office for Budget Responsibility, compared with £5bn annually from the European Investment Bank before Brexit.
Positive reception
Investors were broadly supportive of the well-flagged green Gilt and its new retail dimension, but are waiting to see the details of the projects selected and are calling for a robust framework, with a strong level of accountability, assurance and reporting.
Investors are also curious to see how it will fit in with the government’s 10-point plan for a green industrial revolution, which was announced in November, and applaud the DMO’s intention to build a green curve to broaden investor appeal.
“We are interested, for sure. We would consider it. I’d like it to be forward-looking – it’s that additionality point, we want new projects going forwards,” said Scott Freedman, a fixed-income portfolio manager at Newton Investment Management.
Investors are looking at the deal for a range of purposes. The UK’s large pension fund industry will seek to match liabilities and “green” some of their portfolios, while other non-ESG sterling funds are looking at it as a portfolio management tool and a relative value play.
“I think there will be a lot of interest from investors. I think we will also potentially have interest with some of our portfolios,” said Bram Bos, an ESG specialist at NN Investment Partners.
The green Gilts could also have secondary social angles, investors said, as the government has incorporated feedback from 32 investors managing £10trn of assets who called for social projects to be included.
“Some of the social co-benefits could be a new differentiator for government green securities if that’s made a bit more explicit,” Freedman said.
It is not clear how far the green Gilts will align with the EU’s Taxonomy, as the UK announced in November that it is planning to launch its own version.
Green remit
The Chancellor’s announcement of an expanded green remit for the Bank of England took the markets by surprise as one of the most far-reaching instructions globally from government to a central bank.
The announcement directed the Bank to act to build resilience of the UK financial system to risks from climate change and support the government’s plan for greener industry. The announcement raised many questions, but the green goals are expected to impact micro and macro prudential regulation, financial conduct rules and monetary policy.
The Bank could start to divest some of the £20bn of corporate bonds that it bought under its quantitative easing programme that were issued by high-emitting companies, reflecting its new instructions to prioritise climate.
Banking on change
The new UK Infrastructure Bank, which will be launched in April, will be located in Leeds and is expected to support at least £40bn of total private investment in infrastructure with an initial capitalisation of £12bn in a move that could revamp the UK’s messy mix of sub-sovereign lending.
It will invest alongside private investors with a mix of loans and guarantees and take equity stakes in projects. The bank will lend to local authorities at a rate of 60bp over Gilts for strategic infrastructure projects, and £10bn of loan guarantees will be awarded.
It has been created in part to replace funding previously obtained from the European Investment Bank, although it is expected to mobilise less financing. It could have a similar structure to Germany’s KfW, potentially opening the door to new business for banks.
“If it follows the KfW model, there is a high likelihood that there will be capital markets issuance by the UK infrastructure bank,” NatWest’s Haas said.
The Bank will be able to borrow up to £1.5bn a year, from either the DMO facility or private markets depending on the best value for money, up to a £7bn total limit. Critics are calling for a new public sector financing framework to clarify the bank’s mandate and avoid problems that resulted in the UK’s last Green Investment Bank being folded into Macquarie in 2017.
It is not the first green initiative in UK local authority lending. Councils, including West Berkshire, have been selling small green bond issues to retail investors via ethical direct investment platform Abundance Investment since mid-2020.
Source Nasdaq