As seen in Figure 2, the data certainly seems to back up our current thinking. Since 2015, the amount of debt linked to ESG projects has continued to grow. For the entirety of 2015, debt issued to support ESG projects totaled around $80 billion. Now, we’re seeing multiplies of that every quarter! Over $400 billion of ESG related debt was issued in the first quarter of 2021 alone.
Moreover, debt structures continue to evolve. What was once a market denominated by Green Bonds has now evolved into debt that holds companies more accountable for their sustainability efforts. For example, sustainability-linked bonds have coupons that reset based upon certain sustainability performance targets. Meaning, if companies don’t meet their sustainability goals, their debt costs go up (generally by 0.25% a year). Again, these are real costs to companies that fail to uphold their sustainability commitments. That the debt structures continue to evolve allows investors to target issuers with clearly defined goals and objectives, which serves to broaden the appetite for ESG-linked debt.
Conclusion
Jason Hoody, CFA, is head of sustainable investing at LPL Financial. Lawrence Gillum, CFA, is a fixed income strategist at LPL Financial.
While the evolution of sustainable investing has impacted the equity markets and is often discussed, sustainable investing in the fixed income landscape is changing as well. As providers of capital, fixed income investors play a key role in shaping the future of sustainable investing. Transition risks are real risks to debt issuers, and those borrowers that fail to recognize this changing dynamic are likely to see higher borrowing costs. The appetite for ESG-linked debt continues to grow and, likewise, issuance trends are increasing to satisfy that demand. Moreover, large asset owners, including central banks, sovereign wealth funds, and pension plans, are increasingly incorporating sustainability in their decision-making process, showing that this trend itself is likely sustainable.