For most of history, business and the environment have been in strict opposition. Poisoned water, dirty air, decimated landscapes and global warming can all be traced to standard business practices. From Chernobyl in the Ukraine to brown fields in the United States, the results are on display for all to see. Taken individually, these issues attract relatively little attention, but global warming has increased awareness of environmental concerns and begun to impact business practices because it is having an impact on profits. Green investing has been on the lips of CEOs and investors for a decade now, but there is a new entry into this arena: green fixed-income investing - aka green bonds.
Fixed-income investing for the environmentally aware is a relatively new concept compared to other types of financial instruments. While the idea is in its infancy in the United States and has just a toe hold in Europe, it is likely to grow rapidly as green investing becomes more mainstream. Green bonds are issued to generate money that supports environmentally friendly business ventures, and when you invest you are buying into this philosophy. Read on as we explore this lush, new investing landscape. (To learn the basics of fixed-income investing, check out the Bond Basics Tutorial.)
U.S. Green Bonds are Growing
The use of bonds to fund environmentally friendly projects may give tax-exempt income to investors while also generating a feel-good factor from supporting environmentally friendly projects.
Green bonds in the United States got a major boost from an amendment to the America Jobs Creation Act of 2004. The amendment is officially titled the Brownfields Demonstration Program for Qualified Green Building and Sustainable Design Projects, but for those who prefer to have a little oxygen left at the end of their sentences, this has been shortened to "Green Bonds". It was designed to provide funding - in the form of $2 billion worth of AAA-rated bonds issued by the United States Treasury - to finance environmentally friendly development. The objective is to reclaim contaminated industrial and commercial land (brown fields), and encourage energy conservation and the use of renewable energy sources. (To get started, see Basics Of Federal Bond Issues.)
In order to access these funds, building projects must cover at least 20 acres or offer 1 million square feet of building space. The project must also commit to generating a pre-set portion of its own power through the use of solar panels and fuel cells; it must meet strict standards on the emissions of greenhouse gases; and finally it must meet the standards set by the United States Green Building Council's Leadership in Energy and Environmental Design certification program. The first major project financed by green bonds is a retail complex in upstate New York called Destiny USA. The complex is expected to be entirely powered by renewable energy, and qualified for $1 billion in funding, of which $238 million was generated when bonds were sold to the public in February of 2007. (To learn about environmentally friendly construction, read Building Green For Your House And Wallet.)
On a smaller scale, and with a different approach to the environment, many individual states are also taking action. For example, in April of 2007, the Public Service Commission of West Virginia oversaw the offering of a $459.3 million bond sale in what it called the "nation's first environmental control bond issue". The proceeds of the sale were earmarked to purchase environmental control equipment to reduce power plant emissions responsible for smog and acid rain. Additional projects funded by both governmental and private sources are starting to follow.
Green Planet
In May 2007, the European Investment Bank issued more than one billion euros worth of "Climate Awareness Bonds". It was the first-ever bond issue made available through a public offering in all European Union member states. The funds are set to be used in funding renewable energy projects as part of Europe's commitment to produce 20% of its energy from renewable sources by 2020.
Rather than pay a coupon, the bond is held for five years before being redeemed at face value plus an amount linked to the performance of an index, the FTSE4Good Environmental Leaders Europe 40 index. The index consists of large-cap companies that are involved in renewable energy/-efficiency related businesses. A 5% minimum return is guaranteed.
The U.S. and European Union are not alone in their fledgling efforts. For example, the Malaysian government in 2006 approved a 15-year agricultural bond issue, worth up to two billion ringgit (US$530 million). The bond will cover the cost replanting trees on 375,000 hectares of land. This effort will support the country's massive hardwood export business.
Corporate Bond Scorecard
The development of the JP Morgan Environmental Index-Carbon Beta (JENI-Carbon Beta) illustrates the new connection between business and the environment. The index was designed to reduce investor exposure to the risks of global warming.
Each month, issuers of high-grade corporate bonds are rated via a "carbon score" designed to calculate their impact on the environment. High carbon releases result in a lower rating, while lower releases result in a better rating. The information gives investors the opportunity to put their money into corporate bonds with the best environmental track records while avoiding those with the worst records. (For more on these securities, see Corporate Bonds: An Introduction To Credit Risk.)
The index provides a level of information that was previously completely ignored. However, it is important to remember that the difference between "best" and "worst" may only be a matter of a degree, and "environmentally friendly" may not be an exactly fitting title for even the best companies. Readily accessible information allows concerned investors to vote with their wallets. As companies with poor ratings feel the impact and seek to improve their standing, other companies will fall to the bottom of the pack. Through this process, it is hoped peer pressure will raise the standard of environmental practices across a broad swath of industries.
A Green Future?
The environmentally friendly fixed-income market is in its infancy, but it may be a sign of things to come. As investors express their concerns and companies react, both by cleaning up their acts and by developing more tools like the JENI-Carbon Beta, the environment should benefit.
While a cleaner, greener world is better for everyone, don't forget that companies do what they do in order to maximize profits, and that motive applies to their environmental polices as well. If it is in their financial interests to go green, they will do so, but only to the degree that shareholder pressure and profitability concerns dictate.
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