Capital markets are likely to see more ESG digital bonds as participants explore tokenisation as a way to track uses of proceeds that will help investors to demonstrate the impact of their investment.
New digital green bonds could appear before the end of the year after a brief gap since the European Investment Bank issued Europe's first digital green bond in June. The bond came via the sustainable open-source blockchain so|bond platform built by Credit Agricole and SEB as an alternative to other private systems operated by banks such as HSBC and Goldman Sachs.
"We could see more ESG digital issuance in the next one to three months, and my assumption is that it's not just one," said Stephan Meyer, chief legal officer at Obligate, a platform that allows companies to issue on-chain bonds and commercial paper.
"My impression is that we have more and more specifically green bond issuances upcoming," said Meyer, who is also legal counsel at MME, a law firm that specialises in distributed ledger technology.
The EIB's SKr1bn (US$91.7m) two-year climate awareness bond was intended to offer an insight into how digital bonds can use technology to streamline execution, settlement and trading of bonds, by automating manual processes that go into coupon payments and settlement.
Credit Agricole and SEB have been working in the interim on getting new custodians onto the so|bond platform to build the investor base, which they saw as its main limiting factor initially.
Digital green bonds made their global debut in February when the Hong Kong Monetary Authority issued an HK$800m (US$102m) tokenised green bond on behalf of the government.
HKMA published a report in August that expanded on its blockchain green bond issuance programme – entitled "Project Evergreen" – and explored the potential for tokenised bonds more broadly in Hong Kong.
The Bank for International Settlements Innovation Hub and HKMA have also developed a blockchain-based green bond platform, Genesis 2.0, with a private consortium. The platform is exploring tokenised carbon credits and internet-of-things facilities that control building or factory operations to monitor green bond issuers’ emissions reduction commitments.
Showing impact
Tokenising the monitoring of how proceeds are used could allow investors to demonstrate the impact of bonds in various formats including green, social and sustainable – potentially even in real-time – to counter greenwashing claims and highlight their effectiveness.
"Investors are interested in impact, particularly if they're invested in use-of-proceeds bonds, so from that standpoint, use-of-proceeds tokenisation makes a lot of sense", said Gregor Vulturius, lead scientist and climate and sustainable finance adviser at SEB.
Tokenising the impact of an issue could theoretically start at an asset level and be followed by verification to ensure that the desired outcome had been achieved.
Several hurdles remain as issuers may need some flexibility around asset selection and tangible results are more difficult to quantify in social or biodiversity formats. Northern Trust is developing a blockchain-based platform that would allow investors to purchase voluntary carbon credits directly from project developers, for example.
"Tokenisation to track use of proceeds is definitely something that is under discussion but there is some uncertainty about how you can really tie it to the issuer's various projects and what you commit to the investor base," said Johan Hormark, who works in business development for investment banking and equities at SEB.
Efficiency gains
Digital bonds to date have used fiat money, and traditional clearing and settlement systems. Real efficiency gains are only anticipated when money is also in token form via stablecoins and clearing and settlement is executed by smart contracts.
"If a green bond is denominated in a stablecoin on a public blockchain, the use of proceeds can be tracked – as long as the stablecoins are not converted into fiat. For certain green bonds, covenants are added to the issuance terms that define the allowed use of funds and this flow of funds is observed on-chain or even enforced by a smart contract programme," Meyer said.
For that to happen, public and private platforms need to become interoperable with joint standards, which will take time as the legal and regulatory environment develops.