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Opinion

Will the UK move on green gilts?

The sheer weight of investor demand for sovereign issuance means that the UK government could be warming up to the idea of a green gilt.

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This year has seen record sovereign green bond issuance. According to Dealogic, there have been 13 sovereign green, sustainable or social deals this year, with many of those first-time issuers.

Germany issued its inaugural €6.5 billion 10-year green bond in early September, for example, and is planning to launch another five-year deal in November, bringing its total issuance to €10.5 billion.

Luxembourg also became the first European government to issue a €1.5 billion sustainability bond that aligns with the EU taxonomy.

Sweden, Hungary, Ecuador, Egypt and Guatemala have also issued inaugural green bonds this year, taking the number of sovereigns to have issued both sustainability and green bonds to 19.

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Robert Stheeman, Debt Management Office

One name still conspicuously missing from the line-up, however, is the UK.

Robert Stheeman, head of the UK’s Debt Management Office, has been a staunch sceptic on green gilts for some time, and again dashed hopes of a deal at the beginning of this year, saying it could be a waste of taxpayer money were it to cost more than a standard Gilt.

His concerns are focused on liquidity, and the potential for green bonds to fragment the Gilt issuance process, which is centred around benchmarks of up to £20 billion to £30 billion in size. He has questioned whether the market is willing to pay a liquidity premium for smaller deals or not.

Events so far this year may help to address those concerns.

The EU’s recent €17 billion issuance from its Support to mitigate Unemployment Risks in an Emergency (Sure) employment programme has demonstrated the weight of investor appetite out there for this type of risk: the EU has stated it will sell €225 billion of green bonds as part of its pandemic recovery fund – about 30% of its total rescue package.

This will make it the largest green bond issuer in the world.

Sovereign green or sustainable deals from other European issuers, including Denmark, Italy, Portugal, Austria and Spain, are also on the horizon. As the market grows, concerns around liquidity will necessarily abate.

Furthermore, there is increasingly clear evidence of a 'greenium'. Germany's green bond in September was twinned with a conventional Bund of similar maturity and rate of return issued at the same time. The green bond priced through the conventional Bund and was heavily oversubscribed with €33 billion in orders.

“It’s the first time we have been in a position to explicitly demonstrate a greenium,” says Pierre Blandin, head of SSA DCM at Crédit Agricole CIB, which structured the German bond. “In every other green bond we have done we have to try to compare it with the conventional curve. There’s never the exact same instrument available in the market.”

During a panel discussion in September, Bank of England markets executive director Andrew Hauser commented that the ‘greenium’ seen on European bond issues was an “encouraging sign”.

'Robust commitment'

Demand for sterling issuance also clearly exists. Barclays issued its second sterling green bond at the end of October, a £400 million 2026 deal which was five times oversubscribed.

UK investors, including Simon Bond, director of responsible investment portfolio management at Columbia Threadneedle Investments, have long lobbied the government on this issue.

The Covid-19 pandemic has only intensified these calls, with Bond recently emphasizing there had been “robust commitment” from the investor community to invest in bonds that directly address the impacts of the pandemic and support affected communities.

In October, his firm was one of more than 30 signatories, including Barclays and BlackRock, to a proposal for a ‘Green+Gilt’ put forward by the Green Finance Institute, the Impact Investing Institute and the LSE Grantham Research Institute on Climate Change and the Environment.

Under the proposal, each eligible project would have at least one defined and measurable social co-benefit, with outcomes in line with the Icma Social Bond Principles.

Projects would include affordable housing and infrastructure, employment and skills generation and access to essential services.

“We believe that both investors and the wider society would welcome, with open arms, a liquid green UK sovereign bond with clearly defined social benefits such as the proposed Green+Gilt,” Bond insists.

A corporate may feel the need to underline their ‘green’ credentials through the issuance of a green bond. A government can arguably do more
Robert Stheeman, Debt Management Office

Sovereign green issuance inevitably provides an important fillip to any domestic green bond market.

Says one UK banker: “It’s about the ecosystem created afterwards. After sovereign green bond issuance in Ireland and Belgium, local issuance followed. In France and the Netherlands, where cities had already issued green bonds, a sovereign green bond encouraged greater diversity of green bond issuance domestically.”

Less than 3% of the labelled green, social and sustainable bond market globally is denominated in sterling and the UK is well outside the list of top ten countries in terms of issuance.

Speaking to think tank the Official Monetary and Financial Institutions Forum in August, Stheeman confirmed that he was watching this area “with interest” and there was some indication that he could be persuaded.

“A corporate may feel the need to underline their green credentials through the issuance of a green bond. A government can arguably do more,” he said. “It can make environmental regulations and pass legislation that supports a wider ESG agenda. There is no doubt that the investor base is changing in this arena. For that reason, I would rule nothing out in this area.”

Calls for a green gilt will only grow. Playing host to COP26 next year, the UK is under pressure to show its commitment to green finance. Every other country that has hosted the Climate Conference of the Parties has issued a sovereign green bond.

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