Sovereign innovator
For its unmatched commitment to ESG bond funding while navigating an increased funding programme and a complex domestic backdrop of national elections and high inflation, the Republic of Chile is IFR’s Sustainable Issuer of the Year.
2021’s record-breaking sovereign ESG bond issuance included wildly successful green bond debuts from high-profile credits such as Italy, Spain and the UK, as well as the European Union. Meanwhile on the other side of the world, Chile was providing a masterclass in how a smaller, lower-rated sovereign (A1/A/A–) could also mobilise significant volumes of capital from investors to support environmental and social transformation – at the same time as extending its maturities significantly.
The sovereign’s strategy contrasted notably with the big names. Where they emerged with isolated and headline-grabbing benchmarks, Chile's approach was programmatic and pragmatic.
It issued in the domestic market and internationally. It tapped euros and US dollars. It accessed buyers from the US to Taiwan. And it offered a breadth of instruments that outstrips not only sovereign peers but almost every other capital markets borrower – not just green bonds, but social and sustainable transactions too (sometimes issuing multiple types in multiple currencies within a single offering).
This strategy reflected two key factors. The first is the limitations of Chile’s local and regional investor bases, which led it to seek international borrowing. The second is its desire to raise as much of its funding in ESG formats as possible as part of its efforts to diversify its investor base and drive down its funding costs.
“We understand that ESG dimensions are more and more important for institutional investors. That is the future,” said Patricio Sepulveda, head of the Chilean Ministry of Finance’s public debt office.
Having started issuing green bonds in 2019 and social bonds the following year, more than a quarter of Chile’s debt is now green, social or sustainable. “This is a very important share of our debt and we would like to increase this,” Sepulveda said.
Out of Chile’s US$28bn borrowing programme in 2021, all the foreign currency portion (58%) was in green, social and sustainable bonds. Moreover, having introduced social bonds within its local currency offerings during the 2020 pandemic, it issued another Ps1.5trn (US$2bn) of ESG peso bonds in June. Although the instrument is formally domestic, it is Euroclearable and participation by international investors was high.
In addition, Chile embarked on a bid to become the first sovereign to make use of the increasingly popular sustainability-linked structure. SLBs are “a good option for governments”, said Sepulveda, who views the product as “a positive next step” in Chile’s demonstration of its commitment to environmental and social justice.
September stand-out
The sovereign’s most eye-grabbing achievement was a trio of jumbo dual-currency offerings. It raised as much as US$4.25bn-equivalent in January across a dual-format package of green and social bonds in euros and US dollars. In July it issued more than US$5.5bn of social bonds in the same currencies, including the addition of US$500m to January’s social 40-year, while in September it followed up with a US$2bn package of social bonds – again in euros and US dollars.
The latter offering, which Sepulveda regards as Chile’s key deal of the year, included a stand-out US$1bn 50-year priced at 158bp over the 30-year Treasury. After attracting as much as US$5bn of orders from investors, the deal – Chile’s longest outstanding bond – was sold with no new issue concession.
A €918m eight-year at 70bp over mid-swaps (a 5bp concession after orders of €3.75bn) completed the package, which Sepulveda describes as “an important transaction with a very good result – we obtained very good demand”. This reflected the deal’s careful timing during a period of volatility in the local Chilean market ahead of the presidential election in November.
“We monitored the markets and chose a very, very good window.”
Other US dollar activity underscored Chile’s efforts to maximise its investor reach. With Asian buyers increasingly significant in its distribution in the currency (accounting for over half of some recent transactions), it harnessed Taiwan’s Formosa format in March with a London and Taipei-listed 32-year.
The US$1.5bn deal marked the first sovereign sustainable Formosa and Chile’s first under its November 2020 sustainable bond framework to combine environmental and social uses of proceeds, as well as its debut in Taiwan. It was 2.3 times subscribed at a launch spread of 112bp over the comparable Treasury, helping to take it to a 3.50% payout that marked the lowest coupon yet on a sovereign Formosa.
Limitations in eligible green expenditure mean that 10% of proceeds were allocated to environmental projects. The remainder went to Chile’s social spending, which covers areas such as household support, education, health services and Covid-19 prevention and alleviation.
With local currency offerings set to contribute up to 70% of the sovereign’s 2022 programme, Chile also aims to build on its social bond breakthrough at home. “The space is lower than in the international markets, but we are exploring the possibility to issue more green bonds or sustainable bonds in local currency,” said Sepulveda.
SLB supplement
The social bond product suits Chile well as 65% of government expenditure is on social projects and half of these qualify for bond funding under ICMA's Social Bond Principles. However, it is struggling to source sufficient projects to underlie green and sustainable bonds, though, as the Formosa offering demonstrates, some investors may be amenable to low proportions of green funding within a sustainable bond structure.
While it began 2021 with euro and US dollar taps of existing green bonds, it was unable to offer the product again.
In 2022 its eligible green expenditures will total US$1.5bn. “We cannot build a new metro line every year,” said Sepulveda, who emphasises the challenge of balancing available expenditure across “pure” green and sustainable bonds.
Accordingly, the sovereign is also seeking to supplement its use-of-proceeds deals by potentially issuing SLBs. Chile “would like to move forward” with issuing SLBs in 2022, Sepulveda said – initially incorporating environmental KPIs to demonstrate its commitment to the environmental transition, but potentially also social targets if market demand is sufficiently strong.
SLBs would also help Chile reach the goal of bringing greater variety to its ESG bond suite. “We would like to have more diversified ESG instruments this year and in following years,” Sepulveda said.
It has mandated an undisclosed bank to analyse the product’s potential alongside its own work on this.
But it still requires ministerial approval to take this “innovative step”. That will have to follow the country’s new administration taking office in March.
Chile will also have to create a new framework under which to issue SLBs as its current framework does not accommodate KPI-linked debt.
While its peer Uruguay is also under way with a potential SLB, the initiative should reinforce Chile’s standing as Latin America’s pioneer in ESG bonds. Its documentation tends to serve as a benchmark for the region.
“We like to promote these instruments in the country and region,” said Sepulveda, who reports frequent discussions with neighbouring countries on its approach and subsequent transactions by them.
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