Issuance of global ESG-labelled bonds could reach $4.5trn per year by 2025, from $1.4trn in 2021, according to research by Pictet AM and the Institute for International Finance (IIF).
Historically, ESG investing has been mostly focused on the equity markets, but with around $4trn of capital required globally each year just to contain the threat of climate change, it is inevitable that more money will need to come from bond investors, they argue.
In particular, ESG bonds are likely to become bigger features of emerging world sovereign and corporate debt markets. ESG bond issuance in emerging markets will increase from some $50bn per year in 2020 to $360bn by 2023, according to the Pictet/IIF report.
“By 2025, there will be few global investors who don’t have a significant allocation to ESG and green investments. And if you look further ahead to 2050—when governments and companies around the world will be seeking to deliver on net-zero commitments—we will have effectively greened global bond markets, transforming our environment for the better,” Sonja Gibbs, managing director and head of sustainable finance at IIF, said.
For investors, this transformation opens up new frontiers and brings fresh challenges. The opportunity now exists to create portfolios that can fulfil both financial and non-financial goals – the mitigation of climate change, the protection of biodiversity and tackling inequality have become possible through bond investments.
Among emerging markets, China – with its goal of climate neutrality by 2060 – is expected to remain dominant, accounting for over half of emerging market issuance through 2023.
Green and sustainability bonds
Green bonds represent about 55% of the global ESG bond markets, and robust issuance brought its total size to over $1.1trn, as of the end of Oct 2021. Accounting for about $145bn of green bonds outstanding, China is the world’s third-largest green bond market after France and Germany.
Together with India, Chile and Brazil, China accounts for over 80% of total issuance from the developing economies since the end of 2015. After two years of subdued activity, China’s pledge to reach carbon neutrality by 2060 has prompted a surge in green bond issues from non-financial Chinese corporations and financial institutions in 2021.
Sustainability bonds, meanwhile, constitute about 12% of emerging market ESG fixed income, with borrowers based in China, Chile, and Mexico dominating issuance. The sale of social bonds has picked up during the pandemic; sustainability-linked bonds have also gained traction, particularly among corporations based in emerging Asia.
However, there are risks to consider too. Due to their complexity, ESG bonds can be costly to analyse, requiring far greater scrutiny than their conventional counterparts. Nor do they currently fit neatly into the portfolio construction frameworks investors tend to favour.