How Do Green Bonds Work?
Green bonds work the same way as other corporate or government bonds. As an investor, you provide a loan to the bond provider, who provides you annual interest returns for the life of the bond.
The key difference between green bonds and other bonds is that green bonds have to fund projects that benefit environmental, climate or sustainability goals. There are also differences in how these bonds are purchased and who they’re available to.
Green bonds may also offer tax incentives to the bond issuer or investor, including:
- Tax credit bonds for investors
- Direct subsidy bonds for issuers
- Tax-exempt bonds for investors
Green bonds aren’t as readily available as other bonds and are typically purchased by institutional investors. However, individual investors may still invest in mutual funds or ETFs that include green bonds.
Types of Green Bonds
There are five types of green bonds that are guaranteed through different securities.
- “Use of Proceeds” Revenue Bonds are secured by issuer’s fees, taxes and other revenue. Example: Hawaii State
- “Use of Proceeds” Bonds are secured by issuer assets as collateral. Example: Barclays Green Bond
- Securitization Bonds are secured by a pool of green projects for repayment. Example: Tesla Energy
- Project Bonds are secured by the project assets. Example: Invenergy Wind Farm
- Environmental Impact Bonds (EIB) pay returns based on the project’s success to balance risk between the issuer and investors. Example: DC Water EIB
To become a green bond, the bond has to fund a specific environmental initiative. These projects may help improve:
- Renewable energy infrastructure
- Public transportation
- Pollution cleanup
- Waste management and recycling
Who Issues Green Bonds?
Governments, organizations, companies and multilateral institutions, such as the United Nations (UN), can issue green bonds.
The World Bank was the first institute to issue green bonds in November 2008. They’ve since issued over 160 green bonds, totaling $15 billion in funding for environmental initiatives.
In the first half of 2022, roughly $417.8 billion in green bonds were issued globally — a 27% drop from the same period the year before. Economists blamed rising interest rates, the Russian invasion of Ukraine, the resulting energy crisis and overall economic volatility for the decline.
Most green bonds issued in the first half of 2022 were by issuers in China — about 22% of the bonds issued by 40 countries, according to a report in Pensions & Investments.
The United States was the top green bond issuer in 2021, totaling $83.6 billion in funding.
Fannie Mae was the largest U.S. issuer of green bonds — issuing $13.8 billion in 2021. Its Multifamily Green MBS program finances green mortgages for apartments and other multifamily units with green building certifications or energy efficiency improvements.
How Can You Buy Green Bonds?
Individuals can invest in ETFs and mutual funds that include green bonds, but are otherwise excluded from green bond investments.
Green bonds fund corporate and government projects and are typically purchased by institutional investors, like mutual funds, pensions and insurance companies.
Investment managers, corporations and governments can also outright purchase green bonds.
Green Bonds vs. Blue Bonds
Green bonds fund a variety of environmental improvement projects, while blue bonds are limited to protecting and improving water management and aquatic ecosystems.
Blue bond investments may support sustainable fishing, waste management, ocean conservation, and other water-based industries. Aside from the projects they fund, blue bonds are issued and purchased the same way other bonds are.
What Are Green Bonds, Climate Bonds and Sustainability Bonds?
Green bonds, climate bonds and sustainability bonds all fund environmental improvements, though some have specific expectations for the type of environmental projects they fund.
Green bonds are the most general bond and may support any variety of environmental projects. This includes improvements in waste management, energy infrastructure or sustainable farming.
Climate bonds are often interchanged with green bonds, though climate bonds are intended to reduce the effects of climate change specifically. An example of a climate bond project may be public transportation improvements to reduce greenhouse gas emissions.
Sustainability bonds include environmental initiatives like green bonds, while also addressing social improvements. A sustainability project may fund local sustainable farming to reduce food insecurity, or build energy-efficient housing for low-income communities.
Green bonds are a global initiative to support climate and environmental initiatives with big returns for the investors. While they’re not widely available to individual investors, you have the opportunity to invest through ETFs and mutual funds.
There are plenty of other opportunities to make an impact with your investments for social, economic and environmental good.
Your retirement investments, charity choices and even shopping habits can make a difference. Even if your investments don’t meet the standards of what green bonds are, they can still do some good for the world.