A “green bond” is differentiated from a regular bond by its label, which signifies a commitment to exclusively use the funds raised to finance or re-finance “green” projects, assets or business activities (icma, 2015).

While the OECD has not defined what constitutes a green investment or green bond, it has discussed in its work definitions for “green infrastructure” and for “green investments” (OECD, 2013; Inderst et al., 2012) and has provided a general quantitative basis for assessing to what extent infrastructure systems can be considered “low-carbon and climate-resilient (LCR)” (Kennedy and Corfee-Morlot, 2012). The OECD’s forthcoming bond modelling scenarios and annual investment needs in this analysis are limited to the renewable energy, energy efficiency and low-emissions vehicle sectors as estimated by the IEA (2014) to be consistent with a 2°C emissions path.

Like any other bond, a green bond is a fixed-income financial instrument for raising capital from investors through the debt capital market. Typically, the bond issuer raises a fixed amount of capital from investors over a set period of time (the “maturity”), repaying the capital (the “principal”) when the bond matures and paying an agreed amount of interest (“coupons”) along the way. A green bond is differentiated from a regular bond by being “labelled”, i.e. designated as “green” by the issuer or another entity, whereby a commitment is made to use the proceeds of green bonds (i.e. the principal) in a transparent manner, and exclusively to finance or refinance “green” projects, assets or business activities with an environmental benefit. A green label can also be applied to a bond by another entity via its inclusion in a green bond index (Box 3) or via a “tag” on analytical tools widely used in financial markets such as the Bloomberg Terminal.

Attempts to establish stringent requirements and standards for bonds to qualify as “green” could slow, inhibit or de-rail the growth of a potentially critical source of capital for LCR infrastructure at an early stage of development (Deutsche Bank, 2015; Global Capital, 2015; Institutional Investor, 2015). In response to these tensions, a significant amount of market-led effort has gone into shaping and cultivating a better-defined market with assurances for the environmental integrity and impact of green bonds while keeping “green transaction costs” low or seeking to drive them lower. Much of this initial work has involved determining what investments count as “green”; enhancing the transparency of the process by which a green bond is issued and how the proceeds are used and managed; and also on improving data and impact reporting.

Market and government-led efforts at standardisation and definition in the green bond market have borne fruit, with the emergence of The Green Bond Principles (GBP - a self-regulatory initiative designed to promote transparency and disclosure in the market), the Climate Bond Standards; and other principles and guidelines recognised and backed by the official sector including public financial institutions and development banks.

As the green bond market has expanded and investor appetite increased, so too has the need for comparable performance data and the need to create benchmarks or reference points for performance. Market indices are broadly defined as metrics, often statistical, that track the performance of a specific group of securities or investment vehicles.

In 2014 a range of banks, ratings agencies and service providers launched green bonds indices. These indices are aimed at lowering information barriers facing investors by providing clear risk-return data. Many institutional investors are required to invest exclusively in “benchmark-eligible” securities, so having a green bond included in a benchmark index can be an important attribute for attracting these mainstream investors. As of November 2015, four “families” of green bond indices were available to investors, each with different methodologies for calculation and with eligibility thresholds for green bonds (including currency, size, rating, and extra-financial characteristics like second-party opinions). The four indices are:
– Bank of America Merrill Lynch Green Bond Index
– Barclays MSCI Green Bond Index
– S&P Green Bond Index and Green Project Bond Index
– Solactive Green Bond Index

Indices also take a view on what projects and activities are eligible. For instance, to qualify for the Barclays MSCI Index, at least 90% of proceeds must be used for either new or existing environmental projects in five broad categories: alternative energy, energy efficiency,green building, pollution prevention and control, and sustainable water. Stock Exchanges have built on these efforts and have launched dedicated Green Bond Listings or Segments which provide added capabilities for market participants, including different market modes, data quoting and secondary market trading. As of 2015, green bonds were listed on the London, Oslo and Stockholm Stock Exchanges and Mexico’s stock exchange plans to launch the first green bond segment outside Europe.

Under management by signatories to the UN Principles for Responsible Investment (PRI) now stand at more than USD 60 trillion (according to the PRI), up from USD 4 trillion at the PRI’s launch in 2006. So-called sustainable-investment assets increased 61% globally in two years to USD 21.4 trillion at the start of 2014, with half of the assets allocated to bonds (Global Sustainable Investment Alliance, 2014). Socially Responsible Investors (SRI) as well as mainstream investors that screen for environment, social and governance (ESG) factors have exhibited robust demand for green bonds. Pledges have been made to invest a defined amount into green bonds and investor statements supporting the growth of the green bonds market have been released. Over the last two years, 17 institutional investors and financial institutions have publicly pledged to increase green bond holdings including from Zurich Insurance, Deutsche Bank, Barclays, HSBC, KfW and ACTIAM. In addition, there are increasing numbers of specialised green bond funds.

12 A 2014 investor statement on green bonds signed by investors with USD 2.6 trillion of assets under management was followed in 2015 with another investor statement setting out expectations for the green bond market (Ceres, 2015). The statement’s 26 signatories pledged to carry out additional due diligence when evaluating bonds that finance projects whose environmental benefits are marginal.

The statement also notes the expectation of annual impact reporting and the need for independent assurance or auditing of the selection and tracking of green projects.

An ecosystem of assurance providers has developed, resulting in the production of guidelines specific to municipal issuances, e.g. the Green Muni Bonds Playbook (Green City Bonds Coalition, 2015), as well as a framework developed by 11 international financial institutions active in the green bond market to harmonise impact indicators and reporting.9 Several green bond benchmark indices have been launched to track performance and help formalise what qualifies as green by specifying specific attributes as requirements for inclusion in the index (Box 3).

Green bond market participants and observers are reported to be coalescing (BNEF, 2015) around the GBP, an initiative to develop voluntary guidelines which clarify the approach for issuance of a green bond and recommend transparency and disclosure to promote integrity in the development of the green bond market. The GBP initiative comprises issuers, investors and intermediaries in the green bond market as well as observers, and is administered by the International Capital Market Association (ICMA), which acts as secretary to the GBP.

10 The GBP define green bonds as “any type of bond instruments where the [issuance] proceeds will be exclusively applied to finance or re-finance in part or in full new and/or existing eligible Green Projects and which follows the four Green Bond Principles” (ICMA, 2015).