Investing in a Sustainable Future: A Comprehensive Guide to Green Bonds in India

A Green Bond is like a regular bond is every sense except it is designed to support specific climate-related or environmental projects. They are used to finance projects aimed at sustainable agriculture, pollution prevention, fishery and forestry, renewable energy, clean water and transportation, along with environment friendly water management projects.

Issuers & Investors

Globally, in initial years, Green Bonds were niche products, pioneered by a handful of development banks. However, with growing market appetite for such bonds there is increasing diversification of issuers and investors participating in Green Bonds. The issuance of Green Bonds has witnessed exponential growth led by a new class of issuers-- corporates, commercial banks and municipalities.

The diversification trend is not just limited to issuers, but has also been observed for investor base participation in Green Bonds. Earlier these bonds attracted only PSUs and Institutional Investors, now even retail investors are emerging participants.

History

In late 2007, a group of Swedish pension funds sought to invest in projects that help the climate. Less than a year later, in November 2008, the World Bank became the first institution to issue a Green Bond, raising funds from fixed-income investors to support lending for eligible climate-focused projects. Today, more than 50 countries have issued Green Bonds, with the United States being the largest source of Green Bond issuances.

In India, Yes Bank was the first to issue a Green Bond in 2015. It is classified as a “Masala” Green Bond, which is basically an issue in local currency but off-shore. Eventually, Yes Bank raised Rs. 1645 crores over 3 tranches. These were subscribed by World Bank’s private sector wing, International Finance Corporation. Later IFC, traded them on the London Stock Exchange. This bought a lot of global visibility to Yes Bank Bonds. Eventually other corporates in India took a similar path of issuing Off-shore Green Bonds. The outstanding amount of Green Bonds issued by Indian entities stood at $19.17 billion by December 2022, making up roughly 3.8% of India's overall outstanding corporate bonds.

Ghaziabad issued India’s first municipal Green Bonds in April 2021. In February 2023, NSE listed its first Green Bond - Indore Municipal Green Bonds.

The Sovereigns globally also joined the Green Bond wagon, with Poland being the first government to issue sovereign Green Bonds in 2016. This was followed by France, Nigeria, Indonesia, Belgium etc. till the Global Green Bonds market touched $1 Trillion in 2020. Finally in 2023, India joined the other countries by issuing Rs. 16000 crores in 2 tranches (Rs. 8000 crores each, on Jan 25 and Feb 9, 2023)

Sovereign Green Bolds in India

On 9th November 2022, Government released a framework on Sovereign Green Bonds aligning itself with the International Capital Market Association’s Green Bond Principles. This was followed by RBI announcing the issuance calendar of these bonds on 6th January,2023. The finance minister declared the issue of these Green Bonds in the Union Budget 2023.

The Reserve Bank of India (RBI) auctioned its maiden sovereign Green Bonds worth ₹16,000 crores, in These comprised sovereign Green Bonds 2028 and sovereign Green Bonds 2033 with a cut-off yield of 7.10% and 7.29%, respectively, a few basis points lower than the G-sec of the same tenure.

The framework identifies how the proceeds from Green Bonds will be allocated to projects such as renewable energy, energy efficiency, clean transportation, sustainable water and waste management, and green buildings. In the absence of any binding legal framework, India will follow the ICMA principles as a guidepost to benchmark their Green Bond frameworks. The principles provide voluntary best practise guidance on the use of proceeds, process for project evaluation and selection, management of proceeds and reporting. The principles provide a broad list of project categories, which could be supported through the issuance of Green Bonds.

The framework states, proceeds from the sovereign Green Bonds will go towards projects that meet India’s decarbonisation targets, which include achieving net-zero emissions by 2070, reducing the emissions intensity of GDP by 45% by 2030 over 2005 levels, and increasing the share of non-fossil fuel energy resources to 50% by 2030. At COP 26 and 27, India underlined the need of mindful and deliberate use of natural resources. The Prime Minister also announced “Panchamrit”, a 5-step climate action. The Government will need finance to meet these goals, the Sovereign Green Bonds will be the rightful path to achieve these objectives.

The Ministry of Finance has constituted a Green Finance Working Committee to facilitate the process of project evaluation and selection. Under the supervision of the Committee, an annual report on the allocation of proceeds to the eligible projects, the description of projects financed, status of implementation and unallocated proceeds will be brought out. This committee will also be responsible for assuring that funds are allocated within 24 months of issue. They will generate annual reports with description of key performance measures and will develop an accounting mechanism.

Opportunity for Sovereign Green Bonds

Almost 25 countries have now issued Sovereign Green Bonds. After China, India is the second largest issuer of Green Bonds amongst the emerging economies. As an economy, Green Bond is a coveted solution to our environment and investment needs.

1. Diverse Investor Portfolios & Corporate Green Bonds: Apart from the obvious mandate of raising funds for environment preservation, the Green Bonds are aimed to attract diverse investor portfolios. For instance, Poland experienced significant investor diversification, almost none of whom had previously invested in sovereign bonds from Poland. Sovereign Green Bond issuance also helps grow private Green Bond markets. If an entity (sovereign or a company) chooses to issue a Green Bond, it may attract new investors interested in green investment, thereby increasing demand for the bond. Increased demand can push the yield lower compared to the prevailing Government Security. This can attract new socially responsible investors and asset managers with green investment mandates. A diversified investor participation for sovereign Green Bonds can pave the way for developing a deep and liquid bond market in India.

2. Increase in Domestic Participation: Regulatory changes may also be needed to ensure better domestic institutional participation. RBI through its discussion paper on climate risk has nudged banks to scale up green finance. The Insurance Regulator has also encouraged its regulated entities to invest in sovereign Green Bonds. In coming years, we must see a huge rise in domestic participation.

3. Foreign Participation:  RBI has reduced all restrictions for foreign portfolio investors for Green Bonds. The conditions which apply to regular bonds are exempted for these bonds encouraging foreign institutes with green mandates to invest in India’s Green Bonds. While retail participation will be a small contributor to these bonds, we will majorly see the Foreign Party Investors taking the lion’s share. Since in India there is lack of Green Mutual Funds, or Pension funds dedicated to Green Bonds, we will see major demand from the Foreign counterparts. While the Government is trying to encourage domestic participation, it will happen eventually though not immediately.

4. Massive potential of Renewable Energy: India's renewable energy (RE) potential is estimated to exceed 3,000 GW, yet currently only a fraction of this amount—32.8 GW, equating to a little over 1 percent, has been harnessed. The government aimed to dramatically increase the amount of installed RE, and has set a target of 165 GW of additional RE capacity installation by 2022. The government focus is currently on methods of arranging and facilitating the needed capital investment to achieve this target, which is estimated at USD 200 billion. Green Bonds can be the perfect channel to achieve these objectives. They will help us raise finance to unleash our RE capacity.

Challenges

1. Ill-liquid secondary Market: Since the Green Bonds are at a humble volume compared to the entire Bond market in India, the secondary market of Green Bonds is very ill-liquid at the moment. With further issues, it will garner more demand and give an investor an exit via the secondary market. Currently, apprehensive investors would prefer to stay wary of these bonds, due to the illiquidity.

2. Shorter Tenures: The Green Bonds in India are usually 5-10years tenure, with only some issuances reaching or exceeding 15 years tenure. The lack of long duration, can make it difficult for issuers to achieve their goals with sustainable living, also it can deter investors seeking longer term securities to park their funds.

3. No Tax benefits: Currently, there are no tax benefits on Green Bonds in India. A tax-incentive can be a game changer for the popularity of these bonds.

4. Absence of an Interim Agency: Currently, we have PDMC(Public Debt Management Cell) which is an interim body. It is yet to be upgraded to a statutory agency. Having a Debt Management Agency, will help in achieving transparency and compliance with global standards in the ecosystem of Green Bonds. There may be more information to the investors in forms of annual reports, what has happened to unutilised money, etc. A dedicated agency can accelerate the journey of Green Bonds, attracting investors from all parts of the globe.

5. India’s credit rating for a global perspective: An immense finance will be needed to achieve India’s decarbonisation targets, foreign portfolio investors are highest anticipated investors. S&P and Fitch rate India 'BBB-' and Moody's 'Baa3', all indicative of the lowest-possible investment grade, but with a stable outlook. This could deter many prospective foreign investments.

Way Forward

Green Bonds come with a promise of a better environment and economy. It is need of the hour to undo the harmful after-effects of industrial revolution. With the right regulatory developments and diverse participation, India has the potential to become a successful playfield of Sovereign and Corporate Green Bonds for the World Economy.

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