With over $1 trillion issued so far, "Green Bonds" are becoming a major force in fixed income.
“Green bonds” now account for over $1 trillion1 of issued value, making the category an important – and often under-appreciated – sector of the global fixed income universe.
A bond is considered “green” if its proceeds are directed to support environmental projects or goals, including climate mitigation, reduction of an entity’s carbon footprint, investment in renewable sources of electricity generation, or related activities. An issuer can get a bond certified as green via the Climate Bond Initiative and the ICMA’s Green Bond Principle. So far, the largest issuers of green bonds are in the U.S., China and France, with Emerging Market (EM) issuers, including Poland and Chile, just beginning to get in the game.
Global Green Bond Issuance Over Time ($Billions)
Chart courtesy of Brandywine Global. Sources: Verisk Maplecroft, Climate Bond initiative, as of 1/22/2020. Past performance is no guarantee of future results. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.
Brandywine Global’s analysis concludes that investors appear to favor countries with higher degrees of environmental commitment. The higher the environmental score, the lower the value of credit default swaps (CDS), suggesting that higher environmental scores are recognized by the marketplace as a real factor reducing a country’s credit risk.
As the trend toward green bonds continues, it may be only a matter of time before the other two components of ESG (sustainability and governance) join environmental issues in the valuation framework of the world’s fixed income market.
On the rise: U.S. cash on hand
Like other buyers of products and services, the U.S. needs to have cash at the ready to meet payroll, pay creditors, and make sure its checks don’t bounce. The Treasury Department’s cash on hand account is where that money is kept.
In the wake of recent increases in federal spending – financed in large part by issuing Treasuries – the average and peak cash-on-hand balances have skyrocketed. From a post-2008 financial crisis average of about $100 billion between 2011 and 2015, cash on hand reached as high as $450.5 billion at the end of January 2020 and looks to be averaging about $200-$300 billion since the 2016 election.
The 2015 policy of keeping $150 billion on hand, or at least five days’ worth of cash, appears to no longer meet the needs of the current system. By comparison, the Treasury’s pre-2015 policy was to make do with as little as a two-day reserve.
As cash comes in from tax payments and goes out when Treasury pays the government’s bills, reserves in the banking system move in the opposite direction. To some degree, then, bank reserve levels are at the mercy of Treasury operations.
That affects the Fed’s ability to manage its monetary policy and has in the past left the overall financial system short of ready cash – driving overnight rates from the Fed’s current target of 1.75% up to as high as 10%. The Fed has filled the gaps so far in the overnight rate with emergency repos, and now finds itself in the business of adding to emergency repo actions by buying $60 billion a month in Treasuries to add cash to the system.
On the slide: Japan’s GDP
The -6.3% fall in Japan’s annualized Q4 GDP from the previous quarter was a shock, even to a country inured to disappointing economic news. The figure was the worst since mid-2014. The drop preceded any direct impact from the current coronavirus epidemic, although regional trade played a role nonetheless, in the form of the months-long slump in China’s demand for Japan’s exports.
Tourism from China is Japan’s biggest source of visitors by far, since an epidemic-led falloff in tourism from China seems all but certain. The Japan Association of Travel Agents expects at least 400,000 travelers from China to cancel trips through March. A $96 million package of emergency aid targeted toward businesses affected by the outbreak, along with a $120 billion stimulus package passed in late 2019, may help. However, a 2 percentage-point hike in the national sales tax, combined with the aftereffects of damage from a major typhoon in October 2019, make any economic damage from the viral outbreak all the more difficult to overcome.
Note: The year for all dates is 2020 unless otherwise indicated
1 Source: Verisk Maplecroft, Climate Bond Initiative, January 2020
The Climate Bonds Initiative is an international organization working solely to mobilize the largest capital market of all, the $100 trillion bond market, for climate change solutions.
The UN Principles for Responsible Investment (PRI, UNPRI) are a set of six principles that provide a global standard for responsible investing as it relates to environmental, social and corporate governance (ESG) factors.
A credit default swap (CDS) is designed to transfer the credit exposure of fixed income products between parties.
The International Capital Markets Association (ICMA) represents a broad range of capital market interests including banks, asset managers, exchanges, central banks, law firms and other professional advisers. It aims to sustain and supports its members’ business by promoting the development and efficient functioning of the global capital markets.
Emerging markets (EM) are nations with social or business activity in the process of rapid growth and industrialization. These nations are sometimes also referred to as developing or less developed countries.
Gross Domestic Product ("GDP") is an economic statistic which measures the market value of all final goods and services produced within a country in a given period of time.
The Federal Reserve Board ("Fed") is responsible for the formulation of U.S. policies designed to promote economic growth, full employment, stable prices, and a sustainable pattern of international trade and payments.
U.S. Treasuries are direct debt obligations issued and backed by the "full faith and credit" of the U.S. government. The U.S. government guarantees the principal and interest payments on U.S. Treasuries when the securities are held to maturity. Unlike U.S. Treasury securities, debt securities issued by the federal agencies and instrumentalities and related investments may or may not be backed by the full faith and credit of the U.S. government. Even when the U.S. government guarantees principal and interest payments on securities, this guarantee does not apply to losses resulting from declines in the market value of these securities.