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20 | 27Th JUnE - 3rd JULY 2014 | UTILITY WEEK Finance & Investment Market view N ews of the successful issue of the largest-ever green bond by French energy company GDF Suez last week is shining a spotlight on this emerging area of corporate finance, with European utilities leading the market's development up to now. At $3.4 billion (£2 billion), GDF Suez's issue represents close to a third of the total $10.4 billion of corporate green issuance since November last year, and almost doubles the previous record of $1.9 billion set by Electric- ite de France (EDF). These mega-deals show the rising impor- tance of green bonds as a source of capital, driven both by the needs of corporates and the desire by investors to allocate capital to socially responsible and environmentally sustainable investments. The aim for both issuers and investors is to develop a large and liquid market in order to reduce transac- tion and investment costs. Based on year-on-year growth trends, we estimate that the corporate green bond market in 2014 will be double the size of last year's total green bond issuance, at around $20 billion. A group of financial institutions has created a set of green bond principles to enable issuers to categorise their bonds as "green". In all cases, the proceeds should be exclusively applied toward new or existing projects that promote climate and sustain- ability actions. There are currently four types of issuance: 1. green use of proceeds bond, with recourse to issuer; 2. green use of proceeds revenue bond, with nonrecourse to issuer. Credit exposure is to the pledged cashflows of revenue streams, fees, taxes, and so on; 3. green project bond. Investor has direct exposure to the risk of the project with or without recourse to issuer; 4. green securitised bond. Collateralised by one or more projects (covered bonds or asset-backed securities). So far, investors have shown a large appe- tite for corporate green bonds, with many issues to date oversubscribed. This trend is likely to continue as green issuance shis away from multilateral development banks toward mainstream corporates with utilities remaining prominent. The future develop- ment of the green project bond market could also see the aggregation of environmental projects to form debt obligation instruments and an increased focus on the refinancing of existing environmental projects. Crucially for investors, the credit risk of a corporate green bond remains on the issuer's balance sheet. This means that, unlike with multilateral bank issuance, investors do not have to sacrifice yield to gain green expo- sure, nor significantly increase their risk pro- file to invest in assets that aid environmental efforts. This can satisfy investors' require- ments for yield, while safeguarding their reputation for socially responsible investing. Corporate issuance is likely to accelerate not only because this aids diversification of investor pools, but because of investors' growing intention to implement environmen- tal, social, and governance targets initiated by the United Nations Principles for Respon- sible Investment (PRI). As of April 2013, the 1,188 investors who had signed up for the PRI represented approximately $34.0 trillion of assets under management, which was over 2.5x the amount five years previously. Corporate issuers see green bonds as an alternative financing avenue, offering access to a diversified investor base, plus a means of implementing and maintaining efficiency measures considered environmentally sus- tainable. The Climate Bonds Initiative, a non-profit organisation that promotes invest- ments to combat climate change, predicts total green bond issuance will reach $40 bil- lion in 2014. However, based on the amount of green bond issuance so far this year, we think that half this figure could easily be reached by corporate issuance alone. Despite facing issues of volume, liquid- ity, and regulatory monitoring, the corporate green bond market has gathered convincing impetus since late 2013, with a number of large transactions expanding the market to $10.4 billion. In November 2013, the first billion dollar issue arrived in the form of EDF's $1.9 bil- lion 7.5-year green bond, which was twice oversubscribed. This month has seen the largest corporate green bond issuance so far, with GDF Suez's $3.4 billion dual-tranched green bond. Orders were three times oversubscribed. While the corporate green bonds issued so far have been from well-known and higher-rated names in the market, they could pave the way for other corporate entities. Furthermore, the bonds have been issued in Europe, backed by a gradually improv- ing economic outlook. This may change if green bonds attract US investors, who enjoy a larger source of domestic liquidity. In the future, we expect corporate green bonds could be issued by a variety of indus- try groups, and will likely be concentrated in industries that are considered lower- risk, are already experiencing good growth, and where upfront costs tend to be smaller. Unlike multilateral development banks, which are mostly rated "AAA", ratings for corporate green bond issuers are spread over the investment-grade spectrum from "AAA" to "BBB", with the majority at "A+" or "A". We think this could boost confidence among prospective corporate issuers who are rated "BBB-" or above, aiding market volume. In the current market, a lack of economies of scale is an obstacle to speculative-grade corporates interested in issuing green bonds, or higher-rated companies with smaller funding needs. As the market continues to develop, smaller environmental projects may be able to attract financing by aggregating into larger investment offerings. This could make them more suitable to larger investors. We think it likely that the market will begin to see structuring of bonds to enhance credit support. We also think the next stage of market evolution will involve a shi in credit risk away from corporate entities, moving financing for environmental projects off their balance sheets. All told, the increas- ing appetite from investors and issuers point to a blossoming of the corporate green bond market this year. Michael Wilkins, managing director at Standard & Poor's Ratings Services Corporate green bond boom Following the successful issue of a number of mega-deals in the green bond market, global corporate issuance is likely to double to $20 billion in 2014, says Michael Wilkins.