In the world of finance, bond is a frequently used term. It’s a fixed-income instrument representing a loan made by an investor to a borrower. You can also think of it as an I.O.U between a lender and a borrower. It includes the details of the loan and its payments. Companies, states, municipalities, sovereign governments, etc use bonds to finance operations and projects. With the increasing interest of the world towards sustainability and renewable energy, the green bond term is becoming the talk of the town. In this article, you will learn what are green bonds and why all the fuss about them, what is the problem with green bonds, etc.
What is Green Bond? What are Green Bonds and Why all the Fuss?
A green bond is just like any other bond. It is however especially earmarked to raise money for environmental and climate projects. Typically, these bonds are asset-linked and backed by the issuing entity’s balance sheet. They usually carry the same credit rating as the issuer’s other debt obligations. The concept of green bonds dates back to the first decade of the 21st century. These bonds are also referred to as climate bonds, but keep in mind these two terms are not synonymous.
The potential green project categories can include categories like biodiversity conservation, sustainable waste management, sustainable land use, energy efficiency, renewable energy, etc.
There are no tax advantages of green bonds but these bonds offer investors and issuers a great opportunity to make climate-friendly and sustainable investments. Additionally, some researches show that companies that indulge in social, governance, and environmental issues in their corporate strategy outperform those that don’t. With this, you have what is green bond or what are green bonds and why all the fuss. Also read Solar Power to Triple During Next Five Years.
What are the Types of Green Bonds?
After learning what are green bonds and why all the fuss, let’s learn about the types of green bonds through these pointers-
- Use of Proceeds Bonds: This type of green bond is dedicated to financing green projects. However, here in case of a liquidation, the lenders have recourse to the issuer’s other assets. This type of instrument carries the same credit rating as the issuer’s other bonds.
- “Use of Proceeds” Revenue Bonds or Asset-Backed Securities (ABS): This security may finance or refinance green projects. But the collateral for the debt comes from streams of revenue collected by the issuer, like fees or taxes. This type of setup is mostly used by state and municipal entities while issuing green bonds.
- Project Bonds: This green bond type is limited in scope to a particular underlying green project. It means that investors have recourse only to assets related to the project.
- Securitization Bonds: These debt instruments involve a group of projects gathered together into a single debt portfolio, with bondholders having recourse to assets underlying the full set of projects. Some examples of these bonds include solar leasing projects and green mortgages.
- Covered Bonds: This type of green bond involves financing a group of green projects known as the covered pool. In this case, investors have resources for the issuer, but if the issuer is unable to make debt payments, the bondholders gain resources to the covered pool.
- Loans: The financing for green projects may be unsecured or secured. In the case of secured loans, lenders have full resort to the collateral, moreover, in some cases, partial resources to the borrower. In the case of unsecured loans, lenders have full resort to the assets of the borrower.
What is Problem with Green Bonds?
After understanding what is green bond it is also very important for you the learn about the problem with green bonds. The problems are as follows-
- Sometimes green projects focused on by issuers are questionable. It’s because the issuers use the proceeds from these bonds to finance projects that harm the environment.
- There is a lack of rating guidelines and credit ratings for these bonds.
- The green projects require a comparatively extended period to deliver returns.
- The credit rating of green bonds is below AAA or AA and this is a reason why investors are reluctant to invest in them.