The U.S. backlash against investment strategies that incorporate environmental, social and governance principles is forcing borrowers to be more thorough when labeling bonds, a positive development for the $6 trillion ethical debt market, according to Morgan Stanley.
"To some extent some U.S. issuers are more trepidatious because of the pushback," said Melissa James, vice chairman of global capital markets at the New York-based lender. "Had things gone unfettered, it would've gotten a little too frothy. The market is maturing."
Growing skepticism about the validity of ESG investments in the U.S. — driven largely by leading Republican politicians — is making investors rethink how they embed sustainability in their bond funds. There are less money managers saying that sustainability is a fund objective, according to a HSBC Holdings survey conducted from May 31 to June 24. Meanwhile, others stick with the strategy but avoid the "ESG" acronym, according to a second-quarter survey of roughly 300 Bloomberg terminal users.
The so-called greenium, which refers to the price advantage that companies can reap when borrowing in the ESG market, has largely evaporated amid the political pressure, hurting sales of the bonds in the U.S. Corporations have raised about $31 billion in dollar-denominated ESG bonds this year through August 17, a 53% slump from the same period last year, according to data compiled by Bloomberg.
"The greenium is pretty modest but we're still seeing very strong interest in ESG labeled debt that's well structured," James said.
Decent pipeline
Morgan Stanley has been involved in about 3.4% of the $531.7 billion in sustainable bonds issued by corporations and governments so far this year, making it the seventh-biggest underwriter of the debt, according to data compiled by Bloomberg. The lender has a "decent pipeline" of potential first-time issuers looking to bring new deals, James said.
"Some of them could come this year and there's a stronger pipeline going further out looking at 2024," said James, who oversees the ESG efforts of the global capital markets division.
Global sales of green bonds, the largest category of sustainable debt by amount, are booming this year. BNP Paribas, the biggest underwriter of the bonds, is predicting a record year for the label, which James says is a possibility.
Read more:
Issuance of sustainability-linked bonds — a type of instrument that's been heavily criticized by investors — is also rebounding. SLBs tie interest payments to a company's environmental or social goals. Proceeds from those transactions can be used to fund just about anything as long as issuers pledge to meet certain ESG targets known as key performance indicators, or KPIs.
"The interest is there as long as the KPIs are perceived as being sufficiently ambitious and there's integrity to the structure," James said. "The SLB label is going to survive. In fact, it is emerging as the de-facto transition instrument."
Morgan Stanley is advising clients to publish their sustainability frameworks in advance to give bondholders more time to review the documents, which usually detail the issuer's sustainability goals and eligible projects that may be funded using the bond proceeds, James said.
Drive-by sales, or deals that are typically announced and completed in one day, are generally less in favor these days but can still garner investor demand in certain instances, added James, who has been at Morgan Stanley for more than 30 years.
"Given the continued need to decarbonize the real economy, we see sustainable finance as a good way to synchronize a company's overall corporate objectives with its financing goals," said James.
— With assistance from Jiayu Liu.
