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TheSterlingBondMarkets
and
LowCarbonorGreenBonds
AreporttoE3G

AlexVeys


May2010
1

Abouttheauthor
Alexhasover20yearsexperienceinthebondmarkets,workingforbrokers,asaquantitativeanalyst
for10years,andforFidelityInvestmentsasaportfoliomanagerwherehemanagedalltypesof
bondfund.HealsochairedtheiBoxxoversitecommitteeforseveralyears.Hehasadeepknowledge
ofbonds,derivatives,investorsandbor

companiestopurchaseclimaterelatedbonds.

1.8. IncentivessuchasguaranteesorinsurancefromtheUKgovernmentoranewGreen
InvestmentBankarelikelytoefficientlyleveragepublicmoney.

1.9. Taxincentives,likethoseofferedintheUSMunicipalbondmarket(10%ofthetot
alUSbond
market)couldbesuccessful.Thiswillleadretailinvestorsintothemarket,thoughthiswill
notraisethevolumesofcapitalneededwhichwillcomefromtheinstitutionalmarket

1.10. Greenorclimatebondswillneedtoreflectcurrentbondstructurestoaddressexisting
demand
.Newstructureswithoutfundamentaldemandfrommajorinvestorswillfail.

1.11. Thereisanurgentneedforaclimatebond“ratingagency”to“police” bon ds toensurethat
fundsareusedforgreeninvestmentsandthatinsuranceandguaranteescanthereforebe
reliablyoffered.

1.12. Welldesignedgreengilts,andaGreenIn
vestmentBank,willshowthattheGovernmentis
seriousandcommittedtotacklingclimatechangeaswellashelpingfinancelargeclimate
relatedprojects,leveragingpublicmoneyandleadingworldanddomesticmarkets.


3

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Contents

3.7.2. PensionFundDeficits 22
3.7.3. ClimatechangeandPensionDecisions 22
4. GreenorLowCarbonBonds 24
4.1. History 24
4.1.1. WorldBankBonds 24
4

4.1.2. EIBBonds
25
4.1.3. USBonds 25
4.1.4. BreezeBonds 25
4.1.5. Overview 26
4.2. SourceofFunding 26
4.3. CharacteristicsandStructureofaGreenBondMarket 27
4.3.1. CarbonRatings 28
4.3.2. Incentives 28
4.3.3. GovernmentBonds 29
4.3.4. OtherAAARatedBonds 30
4.3.5. InvestmentGradeBonds 30
4.3.6. HighYieldBonds 31
4.3.7. WhatWillNotWork 31
4.4. Benefits
31
4.6 Movingforward 32
Appendix 33
A.1Glossary 33
A.2GiltEdgedMarketMakers(GEMMs) 34
A.3BondCalculations 35
A.3.1RunningorCurrentYield 35
A.3.2SimpleYield 35

airplanesetc).Amongstotherinformationitalsosho
wedhowmuchthecertificatewasworth(i.e.
howmuchhadbe enborrowed),therateofinterest,thecurrencyandtheborrower.

Atthebottomofthecertificatewereanumberof“coupons”attachedtothemainbodyby
perforations(likestamps).Periodically,thelenderwouldgotothepayingagent
1
withthe
certificate;thepayingagentwouldtearofftherelevantcouponandhandovertheinterestpayment.
Atmaturity,thewholecertificatewouldbepresented,the“principal”(ornominalamount)ofthe
loanandfinalcouponpaidandthecertificatecancelled.Westillusethisslightlyarchaic
terminology
2
today,referringto“coupons”and“principal”eventhoughvirtuallyallbondsarenow
heldelectronically.
2.2. RiskFeatures
Whenaninvestorthinksaboutpurchasingabond,therearefourkeyriskattributesthatthey
willassesstodeterminewhetherthebondisagoodfitwiththeirportfolio,howlikelyitisthatthe
expectedreturnswillbeachieved andwhetherthepriceisfair.Theseattributesare:

 itsissuer
 itscurr
ency
 itscoupon
 itsmaturity

Issuer−Theissuerofthebond(i.e.borrowerofthemoney)definesthecreditriskofthebond.
Thatis,thelikelihoodthattheinvestorwillberepaidtheirinitialloan.Forexample,governmentsare
generallyconsideredtohavealowcr
editrisk(seesection2.4).

.Thefurtherinthe
futurethematuritydate(the“longer”thebond),themoreriskythedebtasthereismoretimefor
theissuertogetintotrouble.Indeed,somebonds(includingthefamouswarloanfromtheUK
Government)are“undated”,whichmeansthattheissuerneverhastorepayth
edebt.Undated,or
perpetual,bondsoftenhavefeaturesthatallowtheissuertopaybackthedebtundercertain
circumstances:thesearecalled“calloptions”andgivetheissuertheright,butnottheobligation,to
paybackthelender
4
.
2.3. LegalStatusandGrowthParticipation
Therearethreebroadwaysinwhichacompanyorinstitutioncanraisemoney:throughthe
equitymarkets,thebanksorthebondmarkets.Eachofthesehastheirownmeritsasshownin
Table1.

Intermsofle
galstatusandgrowthparticipation,bankloansandbonds areverysimilar.The
maintwodifferencesarethelengthoftheborrowingandwhatrightsthelenderhasifthecompany
goesintobankruptcy.Banksloansareoftenmuchshorterinmaturitythanbondsandbanksusually
gettheirmon
eybackbeforebondholders.

Thekeydifferencesbetweenbondsandequityisthatmostequityhas votingrights and 
participatesinthegrowthofthecompany(i.e.sharesintheupside),whereasdebthasneither
votingrightsnortheabilitytoparticipateinthecompany’sgrowth.However,debtorsdohavethe
abilitytocallintheadministratorsifthecompa
nydefaultsonapaymentorbreaksacovenant
5
(and
possiblyclosedownthecompany).Theyalsohaveanearliercallonthecompany’sassets.Soifthe

Creditorranking Low High Highest
Voting Yes No No
Legalrecourse Companylaw Instigatebankruptcy Instigatebankruptcy






Greaterassetsecurity
Greaterpote
ntialriskandreturn
2.4. CreditRatings
CreditRatingsarefundamentaltogoodbondfundmanagement.Notallbondshavearatingbut,
thosethatdonot,sufferfornothavingone, havingtopaymoreforthemoneytheyborrow.

Therearethreemajorratingagencies,Moody’s,StandardandPoor’s(S&P)andFitch.Theyall
havesimilarrat
ingcategories,whichreflectthelikelihoodofabonddefaultingortherating
changing.

Fromthecoarsestperspective,bondsareeitherinvestmentgradeorhighyield
6
.Thearbitrary
bandbetweenthetwosectorswascreatedbyMoody’sintheearlypartofthetwentiethcenturybut
hasremainedimportant−somefundscannotinvestinsub‐investmentgradebonds.

Thenextlevelsplitseachsectorintoratingsbands
7
asshowninTable2.Thisalsoshowsthe

A A 0.09% 1.26%
BBB Baa 0 .2 9% 3 .1 3%
BB Ba 1.36% 9.90%
B B 4.03% 22.42%
CCC Caa
CC Ca 14.28% 41.18%
CC
Defaulted D D 100% 100%
Investme nt
Grade
HighYield
*Source :"CorporateDefaultandRecoveryRates,1920‐2009"
Moodys.Datausedfrom192 0to2009.

2.5. PrimaryandSecondaryMarkets

Thelifeofabondhastwophases,primaryandsecondary.Theprimaryphaseisthegestation
periodofabondbeforeitispricedandlaunchedintothemarkets.Afteritsinitialpricing,itenters
itssecondaryphase.

Theprimaryphaseencompassesalltheworkleadinguptothepri
cingandlaunchingofabond.
Thisincludes:

 Creatingtheprospectus
8

 Writingresearchtosupporttheissue
 Talkingwithinvestorstoseeatwhatpricetheywouldbuythebond
 Buildinga“book”(gatheringalistofinvestorswhohavecommittedtobuyingthebond)

shavebeenallocatedbythebrokerstoclients,switches
10

outofotherbondscompletedandthepriceset.Thesecondaryphasethenstarts.

Whenabondentersitssecondaryphaseitisopentobetradedbyall.Generally,thebrokers,or
leadmanagers,thatbroughtthebondtomarketcommittomakingatwowayprice
11
inthebondfor
itslife.Inreality,thisisnotalwaysthecaseespeciallyindifficultmarketconditionswherethereisa
lotofvolatility
12
orifthebondisofasmallsizeand/orhasacomplexstructure(toomanybellsand
whistles
13
).Thisisimportantasitimpactstheliquidityofthebond,itspriceandthewillingnessof
investorstoownit
14
.




10
Abrokeragreestobuyanexistingsecondarymarketbondinexchangeforsaleofthenewprimary
marketbondonfixedterms.
11
Theycommittobothofferingtobuyorsellthebondor“makeamarket”
12
Volatilitycanbecausedbyarangeoffactorsincludingforexampleemergingeconomicdata,loans

globalinterestrateriskcomparedto5%oftheglobalmarketvalue.Thisisimportantasitshowsthat
theUKbondmarkethasastrongdesireforlongertermbon
dswhichislikelytobefromwherethe
supplyofgreenbondscomes
17
.

Figure1:MerrillLynchGlobalBroadMarketIndex
Index
Weight
Average
Duration
(%) (years)
USD 43.7 4.5
EUR 27.8 5.4
JPY 17.9 6.7
GBP 4.9 8.1
CAD 2.9 6.4
AUD 1.0 3.8
KRW 0.7 4.3
PLN 0.3 4.0
DKK 0.3 7.3
OT HR 0.3 5.1
CHF 0.2 6.9
SEK 0.2 6.0
Currency





19
.Byearly2008,thegilt
marketwasonlyabout40%oftheoverallUKBondmarket.Since that timehowever,giltissuance
hasacceleratedasaresultofthegovernmentbailoutoftheUKbanks.Nowthereareover£700
billionofgiltsinthemarketcontributingtoabout60%ofth
eUKbondmarket.Overthelastfew
monthsthesizeofthenon‐giltmarkethasfallen,mainlyduetosignificant maturingbonds,slower
growthanddeleveraging.

Figure2:TotalvalueoftheUKbondmarketendFebruary2010
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
‐
100
200
300
400
500
600
700
800

sectoriflocalauthoritiesstarttoissue(climaterelated)bondsinthedomesticmarket.Thiswouldbe
especiallytrueifthereweresomeformoftaxincentiveforlocalauthoritybonds(seesection3.5.5
onMu
ni s)Bond
3.3.2. EuroSterlingBonds
ThisisbyfarthelargestsectorintheUKnon‐giltbondmarketcoveringover99%ofnon‐gilt
bonds.TheEuromarketsgrewupinthe1960sasaresultofcomplexinternationaltaxagreements.
Broadly,aEurobond,andspecificallyaEuroSterlingbond,isabondthatisnotissuedundera
particularjurisdictionbu
t,inthecaseofaeuro‐sterlingbond,denominatedinGBP.Itistherefore
notbeholdentoaparticulartaxauthority.Itisneverthelessoftenlistedonastockexchangelikethe
Luxembourgexchangewherethereisnowithholdingtax
20
tofulfillpensionfundrequirements.

AlthoughmanyofthereasonsfortheinitialgrowthoftheEuromarketsarenolongervalid,
becauseofitsflexibility(themarketsareabovecountrymarketsandregulationandthereforelack
nationalbarrierstoentryandaresubjecttolesspoliticalrisk),theEuromarkets,andintheUK’scase
theEuroSt
erlingmarket,continuetogro wandbethemarketofchoiceforissuance.
3.3.3. GlobalBonds

GlobalbondsaresimplybondsissuedintheEuromarketsanddomesticmarketatthesame
time.Thisallowsinvestorswhocannotengageinoneofthesemarketstostillbeabletobuythe
bondsandsoexpandstheinvestoruniverse.Theglobalbondmarkethasbeenparticularlypopular
withthelargestsupranati
onalagenciessuchastheWorldBankandtheEuropeanInvestmentBank
(EIB),whowanttoensurethattheirbondscanbeboughtbybothEuromarketparticipantsandUS
domesticbondbuyers.


3.4.3. AssetBackedandSecuritizedBonds

Assetbackedorsecuritizedbondsaresimilartoordinarybondsbuthavespecificassetswhose
revenuespaytheinterestandprincipal.Anordinarybond’spaymentsaregenerallyguaranteedby
thecompanythatissuesthem.Inassetbackedorsecuritizedbondsasetofrevenuegenerating
assetsareputintoaspecialpurposecompanyandtheseassetspaythebondholdertheirin
terest
andprincipal.

Forinstance,EnterpriseInnssetupaspecialcompanytoholdallitspubs.Therevenuesfrom
thesepubs,aftercertaincosts,werethenusedtopaytheprincipalandinterestofthebonds.This
structureworksbecausetherevenuesarethou
ghttoberobustsotheratingagencycangivethe
bondastrongrating.Indeed,itiscommonfortheretobeanumberofbondsattachedtotheassets
withdifferentclaimsontheassets.Thebondswithstrongerclaimshavehigherrating,perhaps
“AAA”whilstthosebondswithlessercl
aimsmayonlyberated“BBB”astheyhavetowaitforallthe
otherbondstobeservicedbeforetheygettheirsliceofthecake.

Inthearenaofclimatechange,theBreezebonds(seesection4.1.4)areagoodcaseinpoint.
Thesebondsareissuedfro
masecuritizedvehicleorcompanywhichownsanumberofwindfarms
whic  fficienttopaytheprincipalinandinterest.hin turngeneraterevenuessu
3.5. IssuersaretheSupply

Withoutborrowers,orissuersofbonds,therewouldbenobondmarket.Fortunatelythereare
manykeenanddiverseborrowersrangingfrominstitutionsliketheUKgovernmenttopre‐profit‐
makingprojectfinance
23
companies.Brokersandindexcompaniesprovideausefulwayof

UKareissuedbyUKinstitutionsand con tributetooverthree‐quartersoftheindex.However,aswe
willsee,muchofthispercentagecomesfromtheUKgovernment.TherearealsomanyEuropean
companiesintheindex(li
keEoNandFranceTelecom)withover100ofthebondscomingfromUS
companies(likeGEandCitibank).

Figure3:UKInvestmentGradeMarketbyCountryofBond
Countryof
Issuer
Numbe rof
B o nds
Percent
ofindex
UK 523 76.7
US 110 4.2
France 65 2.5
Germany 61 4.2
SupraNational 50 4.1
Australia 31 0.9
Netherlands 31 1.0
Italy 30 1.3
Ireland 25 0.9
Spain 20 0.8
Other 116 3.3
Total 1062 100.0


Analternativewaytosplitthebondsisintosectorssuchascorporates(egBritis hTelecom,
Barclaysetc);quasiandforeigngovernments(RoyalBankofScotland,theItaliangovernmentand
theEIB);securitizedorcollateralizedbonds

Seesection2.4.
26
Seesection3.4.3.
27
FormoredetailonCreditRatingsseeSection2.4.
28
Therehasbeenachangehereasthecentreofgravityforfinancialsusedtobe“AA”butwiththecredit
crisis,manyfinancialinstitutionshaveeitherbeendowngradedorbroughtundertheUKgovernmentAAA
rating.
15

Thesovereignsectoriscl
earlythelargestsectorandonlyincludesonlygilts.

Thequasiandforeigngovernmentsector(10.3%)isdominatedbytheEIB(3.5%)andKfW
Bankengruppe(2.5%).Theformerisasupra‐nationalagencyratedAAAandthelatteraGerman
governmentagencyalsoratedAAA.

Thefi
nancialsector(predominantlybanksandinsurancecompanies)ismorebroadlyspreadbut
stillhasahandfulofdominant issuersli keGE(whosedebtcontributestoabout1%ofthetotal
index),Barclays(1%)andHSBC(0.8%).Thesecuritizedorassetbackedsector
29
andindustrialsector
isevenmorebroadlybasedwithnoissuersholdingmorethan0.4%oftheindex.Theutilitysector
hasslightlymoreconcentrationwithissuerslikeEDF(0.5%)andEoN(0.4%)havingreasonable
exposure.

Figure4:MerrillLynchSterlingnon‐giltindex
AAA AA A BBB Total

this,thissupplyislikelytobeneatlyabsorbedbyexistingendinvestorslookingforlongerdat
ed
bondsinsectorsthatdiversifytheirbondexposure.



29
Bondsthataresecuredbyaparticularsetofassets:seesection3.4.3.
16

Figure5:WeightofsectorsintheUKbondmarket
0
0.5
1
1.5
2
2.5
3
3.5
1to33to55to77to10 10to20 20to30 30to50
AggregatedWeight(%)
TimetoMaturity Bucket
Weightof SectorsinUKBondMarket
Utility Financial Industrials Se curitized

3.5.2. Gilts
WehaveseenthattheUKGovernmentisthelargestissuerintheUKbondmarketbutitisalso
importanttounderstandthekeyrolethatithasindefiningthereturnonallotherbondsinthe
market.Yieldsongiltsareoftenseenasthereferencepointforallotherbonds.Hencein
creasesin

.Thisisabout10%ofthe
totalsizeoftheUSinvestmentgradebondmarketofaboutUSD9,800billion
31
.UnlikeUStreasury
bondsandconventionalcorporatebonds(eitherinthedomesticoreuromar ket),whicharemainly
ownedbypensionfundsandinsurancecompanies,mostMunibondsareownedbytheretailsector.

Munibondsareissuedbylocalandstategovernments(Municipalities).Theyareusedtofinance
municipalpr
ojectssuchasroads,sewersandbridgesetcandaregenerallysecuredoneitherthefull
“faithandcredit”oftheissuer(e.g.theState)orontherevenuesfromtheprojectthatisbeing
financed.Thisgenerallygivesthemagoodinvestmentgraderating.

However,Munisarenotspecialbec
auseoftheirratingbutbecauseoftheirtaxstatus.Theyare
normallyexemptfromincometax.Theinterestthattheypay,viathebond’scoupon,isnotsubject
totaxationatthefederallevelandisalsousuallyexemptfromstatetax
32
.Foratax‐payingindividual
thismeansthattheyareaverygoodinvestmentcomparedtoothertypesofbond.Foraperson
payingamarginaltaxrateof,say,40%,aMunibondthatpaysacouponof4%isequivalent,after
tax,toanordinarybondpayingacoup
onof6.7%
33
.

ArelativelynewMunisectorhasrecentlybeenintroducedwhichismadeupofPACEbonds
34

(PropertyAssessedCleanEnergybonds).ThesePACEbondsare,andwillbe,usedtofinanceenergy

March2010.
31
MerrillLynchUSCorporateandGovernmentMasterIndexonthe11
th
March2010.
32
TheUStaxationsystemisdifferentinanumberofwaysthanthatintheUK.Inrelationtomunibonds
though,boththefederalandstatecandeducttaxfromanindividual’sincome.Munibonds,aswellasbeing
exemptfromfederaltaxareoftenexemptfromstatetaxiftheholderresidesinthestate.
33
6.7%*(1‐40%)=4%
34
http://www.whitehouse.gov/assets/documents/PACE_Principles.pdf

35
Seesection3.4.3onassetbackedsecurities
18

Brokershavegeneralskil
lsandparticularspecialtiesdependingontheirhistory,strategic goal s
andthepeoplethattheyemploy.Relationshipswithbrokersareusuallyonaonetoonebasiseven
thoughitisthecompaniesthataretransacting.

Unliketheequitymarket,therearenocommissionspaidinthebo
ndorfixedincomemarkets.
Brokersmaketheirmoneyby“buyinglowandsellinghigh”.Therearetwoprincipalwaysthatthisis
achieved,firstbymakingmoneyfromthe“bid/offerspread”and secondbymanagingabook
36
of
bonds.

andothersubjectstogeneratesales.Thereareoftenquestionsregardingtheirimpartialityaheadof
newbondissuanceasthereisanincentivefortheresearchtobepositiveaboutthenewbonds.
Indeed,thesequestionsextendtoresearchproducedwhenthebondshaveenteredthesecondary
marketsasbrokerstendtoliketomaintaingoodrela
tionshipswiththeissuer.

Therearenumerousbrokersinthemarket.However,thebrokerswiththemostinfluenceinthe
Sterlingmarketsarethesocalled“GEMMs”
38
−theGiltEdgedMarketMakers.Inparticular,the
mostimportantbrokersintheUKmarketarethelikesofRoyalBankofScotland,BarclaysandHSBC.
ThesearethekeyhousesforbothissuingandtradingnotonlyUK‐denomina tedgovernmentdebt
butalsocorporatebondsrangingfromAAAtohighyi
eld.

TobecomeaGEMM,abrokerhastocommittotheDebtManagementOffice
39
(DMO)to
makingcontinuousmarke tsingiltstobothbuyersandsellers,althoughnottootherGEMMs.They
alsohavetomaintainareasonablemarketshare−meaningthattheyhavetoactuallybuyandsell
bonds(ratherthanjustmakingmarketsandnottransacting)inboththeprimarygiltauctionsand
these
condarymarkets.Asabenefit,theyaretheonlymarketparticipantsthatcanbuygiltsdirectly


36
Abookisatrader’sportfolioofbonds.Thiswillbemadeupofbothrealbondsandderivatives.
37
SeesectionA.4.
38

3.7. EndInvestorsaretheDemand

Finaldemandforbondscomesfromfourcoreconstituencies:pension funds,insurance
companies,alternativeassetmanagementcompanies(likehedgefunds)andtheretailinvestor.The
largestsectorsareinsurancecompaniesandpensionfunds.Attheendof2008,thesetwosectors
heldabout£850billionofbondsassets
41
.Thelargestofthesewastheinsurancecompaniesthat
ownedabout£680billionofbondswiththepensionindustryowning£170billion.

Figure6sho
wsthebreakdownoftheseassetsinmoredetail.Itshowsthatboththepension
andinsuranceindustryhaveapreferenceforlongtermassets.Partofthisreasonisthatbothof
theseindustriesareheavilyregulated.Pensionindustryregulationstartedinearnestafterthe
Maxwellenquiry
42
andhascontinuedsincetoprotecttherightofthepensionerandtheirassetsin
definedbenefitpensionschemes
43
.Thepreferenceforlongtermassetsisaresultofprotecting
stakeholderrightswhohavelongtermagreements.




40
http://www.dmo.gov.uk/docs/publications/operationalrules/guidebook211204.pdf
41
“MQ5,InvestmentbyInsurancecompanies,pensionsfundsandtrusts”,OfficeofNationalStatistics,3
rd


3.7.1. AssetsandLiabilities


Oneofthekeystoregulationisthemeasurementandassessmentofthesocalledasset/liability
mismatch.Thishelpsreducetheriskthatthepromisesmadetothepensionerorinsuredbythefund
orcompanyarenotmet.

 Apensionfund’sliabilitiesarethepaymentsthat it iscontrac
tedtomaketoboth
existingpensionersandprospectivepensioners.Thesepaymentsoftenstretchout
decadesandpossiblyasmuchas80years.Thefuturesizeandnumberofthese
paymentsisdependentonmanyfactorsamongstwhicharewagegrowth,inflationand
longevity.
 Itisdifficulttocalculatethevalueofthe
seliabilitiessincetheyhappenmanyyearsin
thefuture.Pensionfundsuseactuariestobuildmodelsthatendeavortocalcul ateor
estimatethe“presentvalue”
44
oftheseliabilities.
 Ontheotherhand, theass etsthatapensionfund ownsaregenerallyintheformof
equitiesandbondswhose valuesareknow.
 Thedifferencebetweenthesensitivityorcharacteristicsofthefuturepromises(the
liabilities)andthesensitivityorcharacteristicsoftheassetsiscall
edtheasset/liability
mismatch.
 Thedifferencebetweenthevalueoftheassetsandliabilitiesdefineswhetherthe
pensionschemeisindeficitorsurplus.
 Clearly,thereissomelinkbetweenthesensitivityoftheassetsandthesensitivityofthe
liabilities.Theyarelinkedmostclearlythroughinterestratesandin

3.7.2. PensionFundDeficits

Possiblythebiggestobstructiontopensionfundinvestinginclimatechangeassetsaretheir
massivedeficits.AccordingtoMercers
45
,attheendof2009,theaggregatedeficitoftheFTSE350
pensionfundswas£170billion.Withaggregateassetsvaluedatabout£450billion,thisisadeficitof
27%.Inotherwordsthisis27%belowthelevelofassetsthatactuariesbelievearerequiredtomeet
thef
undsfuturepensionliabilitiesof£620billion.Thisdeficitclearlyneedstobeaddressedasitis
massive.Toputthisinperspective,attheendof2008,thesamecompaniesrandeficitsofabout
13%andsomewhatlessinpreviousyears.SimilarnumbersholdfortheentireUKdefinedbenefit
pensionschemein
dustry.

Onthelistofissuesthatpensionfundtrusteesareworryingabout,climatechangeis ratherlow
onthelist
46
.Morepressingishowtomakeuptheirdeficitsandthelegalandriskimplicationsof
allocationchangetoachievethis.Therearealsoclearimplicationsfortheirsponsors
47
,asthefund
deficitsimpactonthesponsor’saccountingrecords.Indeed,legislationcanbeusedtoenforce
paymentstothepensionfundfromthesponsorattheexpenseofdividedpaymentsto
shareholders.

Fortunately,insurancecompanieshavenotsuccumbedtothesamesortofdeficits.Partofthe
reasonforthi
sistheextraregulationthattheyexistunder.Insurancecompanies,unlikepension
funds,arerealcompaniesandhavetohaveacertainamountofcapital.

:

Whenthepur poseofthetrustistoprovidefinancialbenefitsforthebeneficiaries,asisusually
thecase,thebestinterestsofthebeneficiariesarenormallytheirbestfinancialinterests.

Thishasbeen(mis)interpretedsuchthattrusteesmustseektomaximiseprofitattheexpenseof
allotherconsiderationsandpu
tasideallsocial,politicalandmoralviews−effectivelynon‐financial
information−whendecidi ngontheirassetallocation.Thishasclearlyledsomepensionfundsto
deducethattheycannottakeintoaccountclimatechangewhendecidingontheirassetallocation.

However,in2008LordMackenzie,intheHouseofLord
s,statedthattherewas“noreasoninlaw
whytrusteescannotconsidersocialandmoralcriteriainadditiontotheirusualcriteriaoffinancial
returns,securityanddiversification.”

ThisisanareathatcouldeasilybecleareduplegallyorviatheHouseofLords.Forinstance,a
clarificationofthecaseco
uldbemadenarrowingthescopeofthecaseorpensionfundscouldbe
explicitlytoldthattheycould,orperhapsshould,takeclimatechangeintoaccountintheirasset
allocationstrategy.


49
ClaireWoods“FundingClimateChange:howpensionfundfiduciarydutymaskstrusteeinertiaand
short‐termism”http://www.geog.ox.ac.uk/research/transformations/wpapers/wpg09‐13.html
23


4. e wCarbonBondsGre norLo


TheWorldBankdabbledinlate2007withEURdenominatedgree nbondstargetedatretail
investors.Thereturnonthebondswastiedtotheperformanceofan“EcoIndex”whichwaslinked
totheequityperformance ofasetofcompaniesdefinedbyABNAmro.Theoutstandingamountis 
aboutEUR230million.

Theyalsothenlaunche
dasmallbond(aboutUSD30m)thatwaslinkedtocertifiedemission
certificates(CERs).Thesewerespecificallylinkedtoparticularprojectsandagainretailtargeted.

ThefirstofthemajorseriesofWorldBankgreenbonds
50
wereissuedinNovember2008in
conjunctionwithSEBinSwedishKronatothevalueofaboutSEK3billion(£300m)targetedatboth
retailandinstitutionalinvestors.Theyhavecontinuedtoissue intheseriesasshowninFigure7.The
sizesofissuancearety
picalofWorldBankbondsandsofar,underthisprogram,theyhaveissued 
justoverUSD1billion.However,sincethefirstissuanceofthegreenbondinNovember2007,the
WorldBankhasissuedUSD51billionofgeneralbondsandnoneoftheseinGBP.




50
http://treasury.worldbank.org/cmd/pdf/WorldBankGreenBondFactSheet.pdf
http://treasury.worldbank.org/cmd/pdf/Euromoney_
2010_Handbook_Environmental_FinanceforGBPage.
pdf

24

ese
wereiss S atoavalueofSEK2.2Billion(£200m).uedin wedishKron
4.1.3. USBonds
TherehavealsobeenissuesinUSDs(liketheMunibondsalreadydiscussed)butalsoClean
RenewableEnergyBonds(CREB).TheEnergyPolicyActof2005allowedspecialtaxcreditbondsthat
allowedelectricutilitiestoreceiveinterestfreeloansforqualifyingenergyprojects.Thereisalimit
totheam th which,for2009,wasaboutUSD2
.2billionount atcanbeissued
4.1.4. BreezeBonds
52
.

TheBreezeseriesofbondsareassetbackedbonds.Theywereissuedbyacompanycalled“CRC
BreezeFinance”andaresecuredonanumberofwindfarmsmainlyinGermany.Thereareseven
bondsoutstandingtotalingaboutEUR900million.

Thebondsarestructuredsothattherevenuesfromthewindfarmspayin
terestandcapitalback
onthebonds.Thisisclearlyanimportantstructureasitisusingthebondsmarketsdirectly,rather
thanthroughthebanks,tofinancerenewableenergyprojects.

Thecharacteristicsoftherevenuestreamfitneatlywiththeneedsofbondinvestors.Thewind
thatpowerstheturbinesisreasonablyconsistentyea
rtoyear.Thewindturnsthegeneratorswhich


51
2007EPOSIIClimateawarenessprospectusat
http://www.eib.org/attachments/fi/prospectus_doc/XS0301665310.pdf
52