Since BBVA decided to “innovate” in the green bond market by printing the first green AT1 back in July 2020, there has been significant pushback against green bonds coming in “capital” format – especially bank AT1. Ultimately, the focus should be on the impact of the underlying green assets, as the seniority should have limited relevance for the sustainability features of the bond.
In conversations with issuers and bankers, appetite (from banks at least) to issue green capital seems limited. This is even after the EBA opined (Report on the monitoring of Additional Tier 1 instruments of EU institutions.pdf (europa.eu)) that green capital securities are fine as the prospectus makes clear that from a regulatory perspective these are “normal” bonds (no “financial link” to the green assets financed). Most often the lack of appetite (from the issuer and investor side) is due to the perpetual nature of AT1s (mismatch between assets and liabilities), but more broadly for banks sub debt due to the loss absorbing nature of “capital” (sub debt could be wiped out even if green assets perform).
As AT1s are perpetual there is a false issue of mismatch, as there are very limited green assets that come in perpetual format. However, AT1s are periodically callable therefore considerably reducing the “effective” maturity of the instruments. More broadly, a maturity mismatch is a common feature in any green bond, as it is virtually impossible for issuers to find assets with the exact same maturity date as the green bond. Taking Société Générale’s 2016 Green bond that matured in 2021, most green projects financed had a maturity of well beyond 2025 – a clear mismatch. And in the case of green AT1s, it sends a strong signal that in case the bond never gets called (becomes perpetual), the issuer commits green financing in perpetuity.
Then comes the question of loss absorbing features of bank capital securities. In case of bail-in (or even breach of trigger) AT1s and other “capital instruments” can be bailed-in, which would effectively “break” the link with green assets. In any case the “financial” link between green bonds and underlying projects never exists, the issuer only guarantees proceeds raised will fund at least an equivalent amount of green projects. In any kind of failure (be it bail-in, bankruptcy etc.), even senior bondholders will suffer losses while green assets can continue to perform. And by the way, most green bonds from banks are issued in bail-inable senior format (HoldCo senior or Senior Non-Preferred), which is loss absorbing like Tier 2s and AT1s in case of bail-in.
The green debate in AT1s and banks sub debt should instead be focused on the issuer and green bond framework – am I buying into a bank with strong sustainability credentials and am I convinced that proceeds will go to high quality projects with a solid environmental impact. As to the format – covered, Senior, Tier 2, AT1? A Euro or Dollar raised in green senior or AT1 will likely finance the same projects. And selfishly as green bonds investors why eliminate the parts of the market offering the most attractive valuations? If the same projects are going to be financed, no reason to give up financial performance.
