Smart investing: Should you have green bonds in your portfolio?

To qualify as a legitimate green bond, the issuer is expected to meet certain conditions which are globally known as Green Bond Framework.

A green bond is a bond whose proceeds are used to fund environment-friendly projects that have a positive effect on the environment. Such projects could be for prevention of climate change by reducing emissions of greenhouse gases, increasing energy-efficiency, or improving waste management. The concept of green bonds is relatively new and investors need to know about the same.

Traditional bonds vs green bonds
Generally, when a company offers bonds to prospective investors it states a reason such as general company purposes and in turn, the money could be used to buy back its own shares, to pay dividends, or even to pay back some other outstanding debt. But, green bonds are different. To qualify as a legitimate green bond, the issuer is expected to meet certain conditions which are globally known as Green Bond Framework.

Accordingly, the company should indicate clearly which environmental issues the bond proceeds address.It has to say what are the non-monetary tools techniques used for project evaluation and selection to meet the environmental issues declared, explain in detail about managing the proceeds and document in a detailed manner what metrics the company will use to measure the impact of the projects invested such as how much greenhouse gas emissions is expected to reduce and how it will communicate the same to investors.

Why invest in green bonds?
As of now, a few banks such as SBI, Yes Bank, Axis Bank, etc., have mobilised funds and these bonds are listed on India International Exchange (INX), a wholly owned subsidiary of BSE. India INX’s Global Security Market is India’s first debt listing platform that allows raising funds in any currency by both foreign and Indian issuers from investors across the globe.

Investors should consider green bonds as part of their portfolio because this type of bonds carries lower risk than other bonds. The salient feature of green bonds is that though proceeds are raised for a declared green project, repayment is tied to the issuing company and not the success or failure of the projects. Thus, the onus of payment of interest and principal lies with the issuing company and is not based on the performance of the project.

From the issuer’s perspective, green bonds offer a chance to demonstrate its concern for the environment. The issuer company attracts a certain set of investors from the global market who have earmarked funds for such green ventures and thus the interest rate on such bonds are relatively lower than the traditional bonds.

Associated risks
Though many firms raise funds through green bonds stating that the projects will reduce greenhouse emission and enhance energy efficiency, etc., there are instances wherein companies have not adhered to the same in a strict sense. Further, green bonds offered in India have a shorter tenure of 10 years which is less compared to the international issuances. In addition to the above, there could be a currency risk.

To conclude, green bonds may not yield the same returns as that of the traditional bonds; rather, they offer investors a better diversified portfolio with environmentally concerned decisions.

The writer is a professor of finance & accounting, IIM Tiruchirappalli

Going green
To qualify as a legitimate green bond, the issuer is expected to meet certain conditions which are globally known as Green Bond Framework
SBI, Yes Bank, Axis Bank, etc., have mobilised funds through green bonds listed on India International Exchange
Investors should consider green bonds in their portfolio as this type of bonds carries lower risk than other bonds
Green bonds offered in India have a shorter tenure of 10 years which is less compared to the international issuances