Reducing global warming has become a key initiative of public and private organizations worldwide. The 2015 Paris Agreement on Climate Change, which was signed by 194 nations, pointed to the focus on lowering carbon emissions. This transition to a low-carbon economy will require massive investments, and we see green bonds growing in importance as a tool for financing the transition as well as for investor portfolios. Below, members of Mirova’s fixed income team explain what makes a bond green, Mirova’s unique selection process for its high conviction portfolios, and areas of sustainable opportunity.

First off, what’s the difference between a bond and a green bond?

A green bond is structured just like a conventional bond. They trade on a spread over government securities, and the liquidity is the same. You might be surprised to know that eligibility requirements for the Bloomberg Barclays MSCI Green Bond Index that tracks the green bond market are nearly the same as for traditional Barclays aggregate bond indexes. If you look under the hood of the traditional index, you’ll actually find those green bonds in there. What is different about green bonds is that they finance environmental projects – such as energy efficiency, renewable energies, and water management. There’s also additional features of transparency and reporting on the impacts of those projects, usually on an annual basis. Overall, green bonds have a dual impact that may be both financial and environmental.

How do investors know the bond is truly “green”?

The Green Bond Principles (GBPs) is a group of various industry participants that provides guidelines and recommendations on issuing green bonds. These guidelines lay out the key stages for a green bond issuer, as well as for investors seeking information to assess the environmental impact of their investments. There are about 180 members of GBPs, including underwriting banks, issuers, and investors. They aim to strengthen standards over time to promote integrity and credibility of the green bond market, without being too restrictive, as we want the market to grow.

Currently, there are four pillars a bond needs to fulfill to be labeled green: the use of proceeds, the process of project evaluation and selection, the management of proceeds, and regular reporting. Lack of transparency by the issuer can lead to the issue’s exclusion from the investment universe.

What goes into building a green bond portfolio at Mirova?

Mirova implements a high conviction global bond strategy that looks to take advantage of select opportunities in the green bond universe – to deliver both financial performance and environmental impact. Security selection is at the heart of our strategy. Valuation is also a critical part of the process. With growing issuance, our security selection process that integrates both sustainability and financial aspects is vital to finding quality green bonds in terms of positive environmental impact and good value.

Green bonds are subject to a two-pronged environmental, social, and governance (ESG) assessment by Mirova’s Research Team: an in-depth ESG rating for each issuer, and a robust green-bond-specific analysis. This green-bond-specific analysis is based on the four pillars of the GBPs. Furthermore, our team ensures that the underlying projects have significant environmental benefits above the current situation and assesses ESG risks throughout the lifecycle of these projects.

Our Research Team consists of ten ESG analysts. Their analysis is necessary to understand the impact of the projects and is key since not every labeled green bond is eligible for our investment. About 5%–10% of the market don’t pass our criteria and are, thus, ineligible. For example, a bond may lack transparency or significant impact. This research also allows us to identify good issuances with quality projects that may not be part of the benchmark.

After the ESG team approves an investment, we analyze the issuer’s credit profile. This step is crucial, even more so because the proportion of corporate green bonds has increased dramatically over the past few months. Our primary question at this point is: Is the return worth the credit risk? To answer this question, we use an in-house valuation tool called TREE (Tracking Return & ESG Engineering) to monitor securities within our ESG universe. Each security is assigned a ranking (expensive, fairly priced, attractive or very attractive) based on credit trends, the spread level versus government bonds, and the target spread.

Overall, the combination of deep ESG and credit research and a focus on valuations helps to select issuers who are both winners in meeting sustainable development challenges and may achieve solid investment returns over time.

Can you give us an example of a bond that may make it into the portfolio?

One recent example was an issue from a European airport with a really strong green bond framework, and it came with an attractive valuation. Aviation is the least environmentally friendly way of transportation. However, there are currently no alternatives for long distance travel and it cannot completely be avoided. This airport aims to be the world’s most sustainable airport with targets to have zero waste by 2030 and to be carbon neutral by 2040. While the main carbon emissions related to aviation are out of their scope (as it is mainly through the airlines and their operational choices), the company nevertheless plays an active role decreasing not only their own carbon emissions but also those of the companies that use their premises (airlines for example). They work with airlines to incentivize them to do better (and penalize them for not doing more) to decrease their emissions. Furthermore, the airport has no plans of increasing the amount of air traffic on their premises.

Could you tell us about Mirova’s history in green bonds?

Mirova has over three decades of sustainable investing experience.1 In the green bond space, which is just over ten years old, the level of specialization in green bond investment has made Mirova a pioneer in two areas. In investment: Mirova bond managers subscribed to the first liquid bond issue as far back as 2012. Mirova now manages more than $1 billion in green bonds across all bond portfolios, representing around 60%–70% of our total investments in fixed income.2 Mirova is also a pioneer with its ESG analysis specific to green bonds.

How large is the green bonds universe?

Well, the first green bond was issued in 2007 by the European Investment Bank. For the first few years, issuers were large multilateral development banks, like the European Investment Bank or the World Bank. However, from 2012 onwards, we saw exponential growth following the global financial crisis. Issuers wanted to diversify their investor base and saw green bonds as an opportunity to do so. We’ve seen significant development each year then. Annual issuance of green bonds has increased almost every year. 2017 was a strong year, with more than $100 billion in new issuance and we saw that kept increasing in 2018 with almost $130 billion in new issuance. As of end of April 2019, issuance was still strong with about $65 billion in new issuance for the first four months of the year. The total market size for green bonds is now almost $450 billion.3

Where are you seeing the most growth today?

We’re seeing more corporations issue green bonds, as opposed to development banks. We have also seen sovereign players come to market, including nations such as France, Indonesia and Chile. We’ve seen growth across the board, but primarily the largest growth in issuance is from corporates. In fact, non-financial corporates now represent the single largest issuer type, at about 25% of the market.

Particularly in the utilities sector, we’re seeing companies transition their business models to become more sustainable. They are looking for solutions to reduce their dependence on fossil fuels and relying more on renewable energy production. For example, there have been new issuances from utility companies in Spain, Portugal, Italy and Lithuania, among others. This trend is seen across the United States, as well.

In the United States, in addition to utility companies, we have seen certain local authorities, REITs,4 large banks, a hospital operator and a well-known tech company, among others, issue green bonds, but we would certainly like to see more issuers tap into this market.

Where we would like to see more issuance is still more from corporates, especially from the auto sector, where we have seen very little activity so far, and also from emerging market issuers.
1 Mirova is operated in the US through Mirova US LLC. Mirova was previously a division of Ostrum AM and benefits from around 30 years of experience in Environmental, Social and Governance (ESG) investing through Ostrum AM.

2 Operated in the U.S. through Mirova U.S., LLC (Mirova US). Prior to April 1, 2019, Mirova operated through Ostrum Asset Management U.S., LLC (Ostrum U.S.). Ostrum U.S. had $722M / €636M / £554M as of March 31, 2019.

3 Source: Mirova. For issuance greater than $200 million excluding municipals and those from China.

4 Real estate investment trusts are companies that own or finance income-generating real estate or other related assets.

The Bloomberg Barclays MSCI Green Bond Index provides a broad-based measure of global fixed-income securities issued to fund projects with direct environmental benefits according to MSCI ESG Research’s green bond criteria. The green bonds are primarily investment grade, or may be classified by other sources when bond ratings are not available. The Index may include green bonds from the corporate, securitized, Treasury, or government-related sectors. • Sustainable investing focuses on investments in companies that relate to certain sustainable development themes and demonstrate adherence to ESG practices, therefore a portfolio’s universe of investments may be reduced. It may sell a security when it could be disadvantageous to do so or forgo opportunities in certain companies, industries, sectors or countries. This could have a negative impact on performance depending on whether such investments are in or out of favor. • This material is provided for informational purposes only and should not be construed as investment advice. The views and opinions expressed may change basedon market and other conditions. • This document may contain references to third party copyrights, indexes, and trademarks, each of which is the property of its respective owner. Such owner is not affiliated with Natixis Investment Managers or any of its related or affiliated companies (collectively “Natixis”) and does not sponsor, endorse or participate in the provision of any Natixis services, funds or other financial products. • Natixis Distribution, L.P. is a limited purpose broker-dealer and the distributor of various registered investment companies for which advisory services are provided by affiliates of Natixis Investment Managers.

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