Demand for green bonds in Europe is being driven by the EU's ambitious climate goals, as well as new issuers such as the German government and corporations like carmaker Daimler AG, cementing the region's leadership role in the market.
The outbreak of coronavirus dented global demand for green bonds — debt that finances environmentally friendly projects such as wind farms or solar power — as markets dried up in March and issuers switched their priorities to health, but issuance is showing signs of making a comeback, particularly in Europe.
The region accounted for $87.49 billion in issuance in the year to Sept. 30, eclipsing that of the second-largest market, North America, which issued $36.81 billion, and the third-largest, Asia-Pacific, which issued $26.67 billion, according to data compiled by S&P Global Market Intelligence. In the third quarter, European issuance soared to €35.21 billion, compared to €21.31 billion in the first quarter and €26.56 billion in the third quarter of 2019.
In 2019 as a whole, European issuance totaled $121.05 billion — almost as much as North America and Asia-Pacific combined.
"Europe has been very focused on climate change, maybe ahead of other markets," Kay Hope, a credit research analyst at Bank of America, said in an interview. "The EU has been the first region to aim to be climate neutral by 2050."
The EU plans to spend 30% of its €750 billion COVID-19 recovery plan on climate projects.
Pascal Canfin, chair of the EU Parliament Environment Committee, told Bloomberg TV on Sept. 28 that EU green bond issuance would begin in 2021, with about €100 million issued in that year and the rest of the estimated €225 million in the following years.
The recovery plan must be adopted by member states and the European Parliament at the end of the year, which will determine the exact calendar, he said. Institutional investors have pledged to invest in the bonds.
The EU taxonomy — a new classification system designed to define green investments — will also play an important role in the growth of the market in Europe because it asks for additional reporting on green investments, Hope said. Investors often want more standardized information about green bonds, while issuers want more consistent feedback from investors about the kind of information they should provide, she said.
New entrants in the sovereign green bonds market are driving issuance in Europe. Germany issued its inaugural €6.5 billion green bond in early September and it is planning to launch another in November, bringing its total issuance to €10.5 billion.
Both issues will be "twinned" to a vanilla bond and will have the same maturity, coupon and interest dates as the conventional bond, while the green bond's issuance volume is smaller. The twinning of the bonds is designed to ensure continued liquidity on the German bund market as low supply has made liquidity an issue for green bonds.
Green bonds, which are less liquid, will reduce the outstanding volume of German debt and investors appreciate the high liquidity of German bunds, the German ministry of finance said in a presentation. The twin issue will attempt to offset any negative impact.
The mechanism will also allow investors to switch between the two types of bonds, the ministry said.
"Germany has garnered a lot of interest recently with its twin bond concept," Hope said. The country's approach is to build out a green bond yield curve, she said. A yield curve shows the different interest rates of bonds with varying maturities and is a benchmark for other debt.
In a Sept. 25 report, Dutch bank ABN AMRO said the curve could become a reference point for green bonds issued by corporates and sovereigns and make the market more transparent and attractive.
Sweden and Hungary also issued inaugural green bonds in 2020, while Denmark, Italy, Portugal, Austria and Spain have all indicated their intention to issue bonds as governments seek to raise capital to meet climate goals, Jovita Razauskaite, portfolio manager for green bonds at NN Investment Partners, said in a note.
European sovereign bond issue totaled $10.34 billion in the first nine months of 2020, the fourth-largest issuer group, according to data from the Climate Bonds Initiative.
The largest issuers are nonfinancial corporates at $25.42 billion, and Razauskaite said the market was becoming more diversified with more industrials issuing green bonds.
A recent newcomer to the green bond market is German carmaker, Daimler, which issued a €1 billion 10-year green bond, with half the proceeds to be used for upgrading or building factories to produce electric cars.
Volkswagen issued two green bonds, with combined volume of €2 billion and eight- and 12-year maturities, and the funds will be used for investing in new electric car models.
Support from the European Central Bank is also driving demand for green bonds in Europe. ECB President Christine Lagarde told French television channel France 2 in June that the ECB is a "very active buyer" of the debt instrument and holds almost 20% of all green bonds.
The ECB could support liquidity as well as improve disclosure and reporting standards, said David McNeil, associate director for sustainable finance at Fitch Ratings. The world's first green bond issuer, the European Investment Bank, had helped create higher standards for green bond disclosure, he noted.
The ECB could promote the International Capital Market Association's green bond principles, which are voluntary guidelines for issuers, as best practice, McNeil said.