As green bond issuance surges around the globe amid intense investor focus on the ‘E’ in ESG, in Latin America, attention is increasingly shifting to the ’S’ part and the urgent need to finance social development in the region. By Ben Edwards.
In February, the Central American Bank for Economic Integration issued a US$1.25bn social bond – a record for the development bank. The deal, which matures in 2026, attracted bumper demand from investors, with the order book five times larger than the bank’s minimum target of US$500m. It was the bank’s second social bond of the year, having already issued a smaller US$130m 10-year deal to Taiwanese investors in January.
Other SSA issuers have also been targeting social spending through their broader sustainable bond frameworks. In April, Mexico issued three peso-denominated bonds equivalent to about US$842m that were linked to its sustainable development goals sovereign bond framework, which includes targets such as ending poverty and hunger and improving health and education. Also in April, Banco de Brasil issued a US$750m sustainable bond, with part of the proceeds going towards social projects such as lending to small and medium-sized businesses and women-owned enterprises, said Anne van Riel, head of sustainable finance capital markets for the Americas at BNP Paribas, which was lead bookrunner on the deal.
Those transactions underscore a broader transition in Latin American sovereign and FIG issuance away from green-only to a mix of social and sustainable, Van Riel said.
“You can’t really talk about sustainability in Latin America without addressing social,” she said. “If you go back to 2019, about 85% of issuance was green in Latin America, and the rest was either social or sustainable. Last year, less than 10% was pure green. So, there’s definitely a thematic shift towards social and sustainability. But even where they are labelled as sustainability bonds, for many issuers, from an allocation perspective, around 80% or 90% of the proceeds go to social.”
That shift began to take shape back in 2020 when Ecuador issued the world’s first sovereign social bond, a US$400m deal to provide housing to 24,000 families in the country. A few months later, Chile – which was the first country in the Americas to issue a green bond back in 2019 – tweaked its bond framework to include social issuance. In 2021 alone, it issued more than US$7bn of social bonds, with use of proceeds including access to essential services, affordable housing, Covid-19 response funding, employment generation, food security and socioeconomic advancement and empowerment.
“There were some some limitations to how much Chile could spend as a government on green projects, so it modified its framework to allow both green and social expenditures,” said Gordon Kingsley, head of Latin America DCM origination at Credit Agricole. “This made sense for Chile because in any given year, a much larger percentage of government expenditure is going to go to social spending, and Chile switched gears to start issuing in a social bond format.”
The region’s development banks have also been tweaking their green bond frameworks to include social assets or creating separate social bond frameworks. Latin American development bank CAF, for instance, worked with Credit Agricole on adding a social bond framework during the pandemic so it could issue an ICMA-compliant social bond to fund its Covid-19 pandemic response. A €700m bond followed shortly after.
While Latin American social bond issuance hit a high of US$16.4bn in 2021, according to Refinitiv data, a broader drop-off in capital markets activity saw activity decline sharply last year, with just US$1.38bn of pure social deals – something that Cabei alone has already matched this year. Rafael Janequine, a sustainable finance director at S&P in Sao Paulo, said last year’s slump does not paint the full picture, given that a significant chunk of social-related issuance was folded into broader sustainability frameworks.
Two sides to the story
“There are two sides of the story that we see,” said Janequine. “One is that issuers are looking more to social aspects when they’re looking at their sustainability strategies, and so they are tending to use sustainability bonds to complement their green financing. The other side to the story is the limitations of use-of-proceeds bonds – issuers may not have enough pure green or pure social projects to meet the minimum ticket size, but if they combine them under a sustainability framework, they can then potentially have enough projects to meet the minimum ticket size to do a bond.”
CAF is also working on a sustainable bond framework so it can issue all of its green and social deals under one programme rather than separately – though Antonio Recine, managing director for financial policies and international bond issues at CAF, said it will likely continue to market the bonds as green or social depending on what the proceeds will be used for.
The need for more social bond funding in Latin America is pressing. More than 200 million Latin Americans live in poverty – almost a third of the region’s population – with 13% of those in extreme poverty, according to the Economic Commission for Latin America and the Caribbean’s 2022 Social Panorama report.
“Latin America has one of the most unequal societies in the world,” said Jorge Rubio, global head of social finance at Citigroup. “The funding gap is huge and no one single entity can deal with this alone, so to get to the scale needed it would be impossible to do without tapping the capital markets.”
Use of proceeds for social bonds tend to be wide ranging. ICMA’s Social Bond Principles include categories such as affordable basic infrastructure, affordable housing and food security, while funds raised should be targeted at specific sections of society, such as people who are living below the poverty line or are from marginalised communities.
“The most common use of proceeds for social is access to essential services and basic infrastructure for corporates and financial inclusion for banks,” said Janequine. “We have a lot of gaps in the region related to sub-par public services, so things like access to water, sewerage, health, education, mobility, financial services and the social gaps created by the large informal economy that we have in the region.”
Those categories mean the financing can quickly make a difference on the ground and potentially move the needle on social development in the region.
“One of the key differences between social bonds and green bonds is that with social, the impact is more direct and more tangible,” said Recine.
SSA issuers are taking a lead role in the development of the market.
“Agencies like the Inter American Development Bank are playing an important role by providing guarantees for certain issuers because, if you want to do this at scale, you need institutional investors to participate,” said Rubio. “So, some issuers need a bit of credit support that these multilaterals or even local government agencies can provide to get the ratings that pension funds and insurance companies would need to buy the bonds.”
The bulk of Ecuador’s debut social bond, for instance, was guaranteed by the IDB.
Going local
Another way agencies are helping is by buying deals from local issuers. IDB Invest, for instance, has been backing a number of social projects in the region through bond sales or by providing loans. In February, it structured and bought a US$35m-equivalent 10-year social housing bond from Peruvian housing and construction company Los Portales, having also provided a roughly US$44m revolving loan facility to Trinidad and Tobago Mortgage Finance Company to finance home loans to low and middle-income first-time buyers. In January, it partnered with Home Mortgage Bank and RBC Caribbean to issue Trinidad and Tobago’s first social bond – another roughly US$44m deal, with IDB Invest acting as the sole investor.
“In the local market, you’re able to do much smaller transactions compared to the international market, so that has been one of the drivers of the emergence of corporate transactions with a social focus in the local markets,” said Ruben Ceballos, head of debt capital markets for Central America and the Caribbean at Citigroup, as well as its sustainable debt capital markets lead for Latin America. “So, you can do US$20m deals or US$50m deals in the local markets and the multilaterals can mobilise funds to those specific transactions and help advise companies on best practices.”
That is leading to a boom in thematic deals that are targeted at particular sections of society. For example, the IFC advised Colombia’s Bancamia on a social bond deal aimed at supporting Venezuelan immigrants in Colombia. The IFC also acted as an anchor investor in Brazilian lender Itau Unibanco’s US$200m gender bond to provide credit to women-owned small and medium-sized businesses.
By using local financial institutions to act as intermediaries, multilaterals can funnel cash to a broader set of micro, small and mid-size enterprises (MSMEs), said Janequine.
Another case in point: in March, IDB Invest lined up alongside the IFC, FinDev Canada and funds managed by Finance in Motion to co-invest in a US$230m subordinated sustainable bond issued by Banco de Bogota that will be used for both social and green purposes. The social proceeds will finance lending to MSMEs, women-owned MSMEs and low-income housing.
“Financial inclusion is a big focus because credit penetration is still low in Latin America compared to other regions,” said Janequine.
There have been other thematic bonds too. Aside from the wave of Covid bonds during the pandemic, last December, Cabei teamed up with Japanese investor Dai-ichi Frontier Life to issue its first education bond – a US$50m deal that was issued locally in Japan and will provide funding for a school improvement programme in El Salvador.
CAF also issued a nutrition bond back in 2021 that was also placed in the Japanese market with Daiwa Securities Group. The deal raised an equivalent of about US$183m and is being used to finance food programmes in Latin America for young children, pregnant women and people with disabilities.
Despite the increase in deals over the past few years, there are some potential challenges with social bond transactions that need to be addressed to build wider confidence in the market.
“One thing we hear from investors is that it is sometimes difficult to understand the real impact of the projects that are being financed through social labelled transactions because sometimes the project or the eligible categories are directed to a very broad base of the population,” said Ceballos.
He reckons that can be solved by ensuring the use of proceeds are more targeted, and through better impact reporting to track where the money is being spent and the difference it is making on the ground.
Mexico, for example, uses data provided by its statistics agency INEGI to geospatially identify marginalised areas in need of funding from its SDG bonds.
Seeking agreement
Another challenge is agreeing on relevant KPIs. Whereas with green bonds it is relatively straightforward to compare, say, the carbon reduction efforts of different issuers, social goals can be much harder to measure in a consistent way.
“While green bonds are a bit more defined in terms of KPIs and what constitutes a green bond, for social it’s a bit more difficult to define – how do you come up with one KPI that is relevant to different issuers and markets?” said Maxim Vydrine, an emerging markets fund manager at Amundi Asset Management. “That is probably where the market still needs a bit of development.”
CAF, for instance, tailors its KPIs based on conversations with and feedback from investors.
“Before we issue a deal, we have one-on-one dialogue with the biggest social investors in the market and explain the KPIs we’re looking at to see if they will be well received or not,” said Manuel Valdez, senior specialist for financial policies and international bond issues at CAF. “If it’s well received and it makes sense for investors, then we would move forward with those KPIs.” For its Covid bond, CAF measured the success by the number of people vaccinated, Valdez said.
Investors are also focused on whether social bond deals are financing projects or initiatives that otherwise wouldn’t get funded.
“Given the increased scrutiny of the frameworks and investors putting in place their own checklists beyond ICMA’s proposed principles, there is increased demand for issuers to finance new projects rather than existing ones or operational expenditure which would have happened anyway in their annual budgets,” said Emilia Matei, an ESG analyst for emerging market debt at Aviva Investors.
For the region’s development banks, funding social projects has always been part of their mandate, but the boom in ESG investing is giving extra support to their fundraising plans.
“The excitement surrounding ESG – social bonds included – has certainly brought in the investor pool and the appetite to do these kinds of bonds,” said Robert Giannattasio, of counsel at law firm Gibson Dunn & Crutcher.
Take Cabei’s oversubscribed social bond in February, for example. The deal attracted orders from 130 different investor accounts from 33 countries. While central banks and agencies ended up taking the main share (67%), asset managers and banks took 12% each and pension funds and insurance companies accounted for 7% and 2% of the allocation, respectively.
CAF said its social bond issuance has also attracted investors that hadn’t previously invested in its bonds. “It’s very similar to what we saw with green bonds – it’s a new investor base that wouldn’t have bought a CAF bond if it didn’t have a social component to it,” said Valdez.
ESG investors in the US are also increasingly seeking out deals with a social angle. “We consistently hear feedback that ESG investors are interested in social and would like diversification of use of proceeds,” said Romina Reversi, head of sustainable investment banking for the Americas at Credit Agricole. “So, there is a strong increase in focus from the investor base and that is only going to grow.”
At the moment, there are only a handful of funds dedicated to social bonds globally, which means most deals are being snapped up by investors with a broader sustainability mandate. Yet, as the social bond market grows, more dedicated funds are likely to emerge.
“It’s still an evolving market,” said Kingsley. “On social specifically, there are are not that many funds that will go out and raise money for social investments only. Over time, as the asset class becomes more developed, then we probably will see investors that are focused just on social assets.”
To fuel further growth, market participants say there needs to be more engagement between investors and issuers to ensure the right deals are coming to market.
“From an investor’s perspective, the market is still small compared to other labelled bond markets, but not necessarily due to lack of investor demand,” said Matei. “There is an increased need for issuers to improve the robustness of the terms of the frameworks, particularly around the eligibility criteria, then provide timely and accessible allocation and impact reporting.”
Market participants could take cues from the development of the green bond market in order to stimulate growth.
“Where we are now for social bonds in emerging markets is similar to what it was with green bonds about five years ago,” said Vydrine. “There is room for collaboration between public money from the development institutions and multinational development banks and money from private investors, who could work together in order to kick-start this market.”
Amundi, for example, is working with the IFC on a bond programme called BEST (Build-Back-Better Emerging Market Sustainable Transaction), which is designed to expand the availability and demand for other segments of the sustainable bond market beyond green-only deals.
Investors can also help support issuers by providing guidance and technical support – something that Amundi offered in the early days of the green bond market, helping to encourage new supply. “You need to work with the issuers to help them on this path to become social bond issuers,” said Vydrine.
While the social bond market might not match the green bond market for size (with annual global issuance eclipsing half a trillion dollars for the first time back in 2021, according to the Climate Bonds Initiative), the broader appetite for sustainability-related deals is only going to grow, which should support more social issuance – particularly in Latin America.
“Almost every conversation we have with an issuer has an ESG component to it, so it is a trend that is here to stay,” said Kingsley.
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