Sustainable bonds have long boasted a pricing advantage over conventional bonds but investors are becoming increasingly reluctant to pay a greenium – or green premium – as such deals become more regular and ESG-focused investors look beyond the label.
Only about a third of non-sovereign green bonds achieved a greenium in the first half of this year, compared with more than 78% during the same period in 2021, according to data compiled by the Climate Bonds Initiative.
US investors are particularly price sensitive. Only a quarter of bonds securing a greenium were priced in US dollars, with the rest in euros, CBI data showed.
“We don’t pay for greenium because we are a total-return investor and we are fiduciaries,” said Tony Trzcinka, a US-based investment-grade portfolio manager at Impax Asset Management. “We must prioritise returns for our clients.”
While bond pricing is affected by factors such as timing and market conditions, a greenium of 2bp–3bp is generally acceptable as investors receive additional information, including detailed uses of proceeds, Trzcinka said.
Samantha Palm, a portfolio manager at San Francisco-based Parnassus Investments, said a reasonable greenium should only be a few basis points to cover the extra cost of issuing sustainable bonds, including a second-party opinion and annual auditing.
“It shouldn’t be significant enough to determine the long-term success for an investor's portfolio,” she said, adding that the prevalent greenium two years ago had turned her away from the green bond market.
“We are especially active this year as the greenium collapses and we see some good value,” Palm said.
Scarcity value
Sectors with fewer sustainable bond deals often see wider greeniums, according to analysis by Bertrand Rocher, a senior credit analyst at Paris-based Mirova, part of Natixis Investment Managers.
Deals from the industrial sector, for instance, have had an average greenium of 7bp this year, and an average greenium of 9bp is seen in the communications sector, the highest of all industries.
Regular issuers such as utilities and financial names have not obtained any greenium, Rocher said, noting that greeniums might vanish entirely in the next few years.
“There’s no reason why investors should overpay for a green bond just for the sake of it being green," said Rocher.
For Joshua Linder, a US-based senior credit analyst and sustainable finance lead at APG, "greeniums exist because of a supply and demand mismatch ... Our hope is that with more issuances, we see greeniums reduce over time”.
The lack of greeniums, coupled with the additional reporting burden of sustainable bonds, has led some US utilities to hit pause on ESG-labelled bond issuance this year.
“Sellside bankers are happy to use the greenium savings to attract issuers, but corporate treasurers need to consider more than the several basis points,” said Stephen Liberatore, head of ESG/impact and global fixed income at Chicago-based Nuveen.
Sustainable bonds can draw a wider investor base, particularly from ESG-focused buyers who hold long-term investments and are more sticky during troubling times, Liberatore said.
Even though his firm has declined deals that had wide greeniums, such deals can signal a company’s sustainability commitment to investors and potentially attract investment in the future, he added.
European investors, on the other hand, are more likely to accept greeniums in exchange for long-term engagement and influence over companies.
“If you hold these companies in your portfolio for a very long time and you develop a conviction in the company, then paying up doesn’t matter that much,” said Saida Eggerstedt, head of sustainable credit at UK-based Schroders.
Eggerstedt said the price premium would pay off in the long run as financial risks are lower for companies that are greener.
Beyond labels
As ESG-focused investors become more sophisticated and disclosure reporting improves, investors may come to rely less on the sustainable label when analysing new issues.
Better disclosure “reduces the difference between a sustainable bond and a conventional bond from a transparency perspective”, said Vishal Khanduja, co-head of broad markets fixed income at Morgan Stanley Investment Management.
Khanduja said an ESG label is only part of the consideration when determining whether an investment is eligible for his firm’s sustainability criteria.
Similarly, Trzcinka at Impax said his firm evaluates a company’s impact independently of a green wrapper and more than a third of its impact holdings do not have an ESG label.