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SMFG Sells Green Bonds As Climate Change Gains Ground

By:

Senior Market Analyst at Interactive Brokers

Tokyo-headquartered Sumitomo Mitsui Financial Group (NYSE: SMFG) sold $500 million worth of three-year notes Monday to help finance environmental projects, amid a groundswell of new corporate debt issuance to start the year.

The Japanese financing arm of Sumitomo Mitsui Banking Corporation (SMBC) said it intends to use the proceeds from the green bond sale for “Eligible Green Projects,” defined under its Green Bond Framework, which includes initiatives for renewable and efficient energy, clean transportation, green buildings, and pollution prevention and control.

The notes comprised one tranche of a four-part, investment-grade ‘A’-rated debt offering that totaled $2.5 billion, with maturities ranging from three to 20 years, and contributed to a massive $23.5 billion worth of corporate bonds issued in the U.S. primary market.

demand for SMFG green bonds see 25 bp compression over course of pricing

Demand for the issuance among bond investors was also decent, with cash spreads having compressed by around 25 basis points to 30 bps over the course of pricing and despite a congested calendar, which included a $10 billion bond sale from Broadcom (NASDAQ: AVGO) in five parts.

SMFG’s 0.508% green bonds due January 2024 were ultimately priced at 35 bps more than matched-maturity U.S. Treasuries. The three-year U.S. Treasury note yielded 0.16%.

Meanwhile, SMBC which touts that it “regularly issues green bonds,” adds its latest offering to €1.7 billion worth of green debt outstanding as of March 2020. The bank has allocated most of the proceeds from these sales to wind and solar energy projects in Japan and the UK, while Japan grapples with meeting its Paris Accord goals on reducing greenhouse gas emissions by 26% by 2030 and 80% by 2050.

Potential Green Bond Growth

Levels of green bond issuance may well swell in 2021, as some analysts estimate roughly $500 billion worth of sovereign and corporate debt could be offered to help economic recovery efforts related to the coronavirus.

Further impetus to sell green debt may stem from the potential for renewed climate change policy from U.S. president-elect Joe Biden’s administration, as well as a relatively new focus on climate change risk by the U.S. Federal Reserve Bank.

In mid-December 2020, Federal Reserve governor Lael Brainard said that climate change “could pose important risks to financial stability.” However, there seems to be a “lack of clarity” about
“true exposures to specific climate risks for physical and financial assets, coupled with uncertainty about the size and timing of these risks.” Brainard said this opaqueness
“creates vulnerabilities to abrupt repricing events.”

A shift in the “perceived frequency or severity of climate-related events, such as storms, floods, or wildfires, could rapidly change perceptions of risk and lead to rapid repricing of assets,” she added.

Meanwhile, the Fed said it joined the Network for Greening the Financial System (NGFS), along with several other major global central banks, to better measure the banking sector’s exposure to climate risk, as well as to analyze the implications for financial stability and other global macro risks.

The global focus on climate change, coupled with supportive fiscal and central bank policies for the broader credit markets, appear to have spurred a rise in green and sustainability-linked bond issuance in 2020.

Moody’s Investors Service, for example, recently observed that a record total of $127.3 billion worth of global green, social and sustainability bonds were issued in the third quarter of 2020, a 30% increase over the previous high set in Q2’2020.

Moody’s ESG analyst Matthew Kuchtyak noted that green bond issuance jumped 31% from the second quarter to $72.3 billion globally in the third quarter, “as economic conditions somewhat improved.” He added that green debt types are “evolving, with green capital instruments and green sukuk emerging as areas to watch.”

Fed Support for Credit Market Liquidity

The Fed has also been actively purchasing certain individual corporate bonds under its recently launched credit facility to help shore-up stability in the financial system, alongside its dual mandate to promote maximum employment and stabilize prices.

To this end, among several other actions it undertook to help prop-up the financial system, the Fed established two facilities to support credit to large employers – the Primary Market Corporate Credit Facility (PMCCF) for new bond and loan issuance, as well as the Secondary Market Corporate Credit Facility (SMCCF) to provide liquidity for outstanding corporate bonds issued by U.S. companies.

Nuveen analyst John Miller noted that the Fed has been “instrumental in restoring liquidity and confidence to the credit markets,” as its zero interest rate policy has reduced borrowing costs throughout the economy and contributed to a positively sloped yield curve, which “tends to be healthy for the financial markets.” The zero interest rate policy, along with its forward guidance and inflation targeting, have been combined with “expansive” quantitative easing, which entails the Fed purchasing Treasury bonds, corporate bonds (including high yield), mortgage-backed securities and commercial paper.

Supportive credit policies spur tsunami of corporate debt issuance 2020

Miller added that these “ultra-accommodative policies have damped the volatility of Treasury bonds and greatly improved the liquidity of credit markets broadly.”

Corporate bond issuance at year-end 2020 totaled nearly $2.28 trillion, a massive 60% increase over the prior year, according to recent figures compiled by SIFMA, while funds continue to see positive inflows.

For the week ending December 30, Refinitiv U.S. Lipper Fund Flows reported net inflows of almost $6.0bn into investment-grade corporate funds, while high yield funds reported roughly US$1.7bn.

prices of green bond etfs have risen off of their march 2020 lows

Against this backdrop, market participants also appear to be receiving positive returns from certain ‘green assets’, amid the global response to climate change-related challenges.

Over the past one-year period, the iShares Global Green Bond ETF (BGRN) and the VanEck Vectors Green Bond ETF (GRNB) returned 6.07% and 7.36%, respectively.

In the meantime, high grade corporate debt issuance will likely continue to mushroom.

Mischler Financial’s head of fixed income syndicate Ron Quigley noted that syndicate managers are suggesting around $40 billion worth of new investment-grade corporate bond sales in this first week of 2021.

“After the first work day of the year we’ve already priced 58.75% of that amount … a very nice start out of the gates,” he added.

In the meantime, use the global bond scanner in the IBKR Trader Workstation to locate corporate bonds that are available to trade in the secondary market, along with U.S. Treasuries, municipal bonds, non-us sovereign debt and more.

Disclosure: Interactive Brokers

The analysis in this material is provided for information only and is not and should not be construed as an offer to sell or the solicitation of an offer to buy any security. To the extent that this material discusses general market activity, industry or sector trends or other broad-based economic or political conditions, it should not be construed as research or investment advice. To the extent that it includes references to specific securities, commodities, currencies, or other instruments, those references do not constitute a recommendation by IBKR to buy, sell or hold such investments. This material does not and is not intended to take into account the particular financial conditions, investment objectives or requirements of individual customers. Before acting on this material, you should consider whether it is suitable for your particular circumstances and, as necessary, seek professional advice.

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