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As emerging markets stagger, pandemic spurs social bond issuance

The coronavirus pandemic is spurring emerging market governments to issue social bonds, using the proceeds to fund their response to COVID-19, which could help establish such instruments as a popular asset class.

Social bonds fund projects with primarily social objectives, including affordable health and housing.

Issuance by supranational, government and corporate issuers in 2020 has already far outstripped the level seen in 2019. Between Jan. 1 and June 15 it totaled $49.8 billion, compared to $20.0 billion in 2019 and $9.6 billion in 2018, according to figures from the Climate Bonds Initiative.

S&P Global Ratings noted in a June 22 report that the social bond market is now growing more quickly than the green bond market, "reflecting a diversification of sustainability objectives financed by investors."

In January, Ecuador issued the first sovereign social bond, raising $400 million, and in April Guatemala raised $1.2 billion in two tranches of a social bond that was more than six times oversubscribed. Guatemala will use the proceeds to finance health and food security projects in response to the pandemic. In Africa, Togo in May also announced plans to launch a social bond to tackle COVID-19.

More governments are likely to follow suit as the crisis continues, Ratings said in the report. The World Bank has estimated that per capita incomes in emerging and developing economies will fall by 3.6% in 2020 due to the "massive shock" of the pandemic, pushing millions of people into extreme poverty.

SNL Image

South Africa bond

The sums raised by Ecuador and Guatemala could be dwarfed if South Africa were to issue its own sovereign social bond. A paper published in May by Stuart Theobald and Peter Attard Montalto of research firm Intellidex estimated that the country could issue 100 billion rand — about $5.8 billion at July 1 exchange rates — in three social bond tranches.

These could be sold to domestic retail investors, local institutional investors and foreign institutional investors in a 10%-40%-50% split.

Theobald led another survey of South Africa's pension industry in which 76% of respondents said improving the sustainability of their investments was extremely important. The domestic pensions industry has 4.5 trillion rand of assets, Intellidex estimates, so allocating just 3% to environmental, social and governance investments would amount to 135 billion rand.

A government social bond issuance could make a significant contribution to South Africa's funding gap, according to Theobald. And such tools could be important in the future if the coronavirus crisis goes through multiple waves in the years ahead, according to Intellidex.

The bonds' proceeds could be spent on boosting healthcare provision and offsetting the economic impact of the pandemic, the paper argues. For healthcare, it could fund activities to prevent the spread of COVID-19 through diagnostic equipment, personal protective equipment and quarantine facilities, as well as for building temporary hospitals and hiring more health workers. As of July 2, South Africa had recorded 159,333 coronavirus cases and 2,749 deaths.

Having liaised with investors, Theobald is confident South Africa could reach a 100 billion rand target. Much of the expense in bond issuance is tied to marketing, a fixed cost, so South Africa should aim big, he told S&P Global Market Intelligence.

And due to Africa's level of development, the social impact could be significant — compared to developed markets, a much greater impact on quality of life can be achieved with the same amount of capital.

"It's a no-brainer that Africa should embrace social bonds as a financing mechanism," Theobald said.

Rapid growth, transparency

SNL ImageSouth African National Defense Forces check temperatures in Johannesburg.
Source: AP Photo

The International Capital Markets Association updated its social bond principles in June to expand the list of social project categories and target populations, which could encourage more issuance of these bonds, Ratings said.

But the growth of the market will test investors' willingness to sacrifice some financial return in order to receive a social return, and require more transparency.

"On the buyside, this is a real test of appetite for sustainable investing and whether big institutions really have the desire to drive sustainability in vulnerable countries," he said.

"Institutions will have to have some difficult discussions internally — on one hand, they have fiduciary responsibility to their clients to focus on risk and financial returns. But they also have a mandate increasingly to focus on social impact."

There will likely be a much tighter engagement with investors to demonstrate their money is having the social impact they were promised, Theobald said.

"There will be a painful adjustment in realizing the quid pro quo [for issuing social impact instruments] is that they must embrace a much higher level of transparency," he said.

As market demand for transparency grows, social bond impact reporting will play a crucial role, according to Ratings.

As of July 1, US$1 was equivalent to 17.10 South African rand.