Asia's sustainable bond market bucked the global trend and issuance grew strongly in the first half of 2022 despite volatility in the bond markets. Eastspring expects the market to continue growing despite heightened inflation risks and rising geopolitical concerns. The expanding universe should present increased opportunities and greater diversification for investors.
The Covid-19 pandemic helped draw attention to environmental and social issues in the last two years, in turn fuelling inflows into responsible investments and boosting issuance of sustainable debt (bonds and loans).
Environmental, social, and governance (ESG) debt funds attracted inflows of over US$135 billion in 2021, up from US$55 billion in 2020. Meanwhile, global sustainable debt issuance reached a new record of over US$1.4 trillion in 2021, almost double the previous year.
This momentum appeared to falter in 2022, as rising inflation and interest rates caused significant turmoil in global bond markets. Global sustainable debt issuance fell to US$645 billion in H1 2022, nearly 15% lower than in H1 2021, although debt issuance picked up in the second quarter.
The picture was somewhat more encouraging in the emerging markets (EM) and Asia. As the chart below shows, emerging and frontier markets issued over US$120 billion of sustainable debt in H1 2022, up from USD100 billion in H1 2021.
Within emerging markets, China was the largest issuer, raising US$73 billion in H1 2022, followed by Turkey and the Philippines. On the other hand, issuance from Russia and India fell sharply.
ESG debt issuance — China maintained strong momentum in H1 2022
We expect Asia’s sustainable bond market to continue to grow despite rising rates, heightened geopolitical risks and the potential divergence in decarbonisation trajectories regionally.
Geopolitical tensions will not derail Asia’s growth
Geopolitical concerns are not new — at the peak of the US-China trade tensions in 2019, there were fears that US-based investors could be discouraged from owning Chinese assets. The Russia-Ukraine war has once again thrust geopolitical concerns into the limelight, as the relationship between US and China further deteriorated following Russia’s invasion of Ukraine.
The world cannot afford to ignore China in the transition to a zero-carbon world. With China accounting for more than a quarter of the world's overall greenhouse gas emissions, China’s decarbonisation journey matters.
The more viable approach is therefore greater engagement, rather than avoidance. Hence, we believe that there will continue to be investor demand for China’s sustainable bonds.
China’s issuance is also likely to remain robust as the sustainable bond market remains an important financing avenue for China in its net neutrality journey. In 2021, China accounted for 65.2% of the new issuance of sustainable bonds in Asia.
That said, the Russia-Ukraine war has highlighted ESG risks for sovereigns. At Eastspring, we incorporate both international and national data in our sovereign ESG evaluation and assign additional weight to the governance factor as it disproportionately influences policy and the country’s overall ESG efforts.
While we score and rank sovereigns by their ESG risks, we also consider how prepared the countries are to address material ESG challenges.
Asia’s decarbonisation trajectory remains intact
The growing focus on energy security following the Russian-Ukraine war should accelerate transition efforts to alternative and cleaner forms of energy. However, it could derail Europe’s net-zero course in the near term, although Asia’s decarbonisation trajectory is likely to remain intact.
European net-zero plans had included swapping coal for natural gas-fired power. However, supply shortages had lifted natural gas prices by almost 600% in Europe in late 2021, and the situation has been further compounded by supply disruptions arising from the Russia-Ukraine war in 2022.
As such, the pace of planned shutdowns for coal-fired power plants has slowed in Europe. Ireland and Poland have reportedly increased their use of coal plants as natural gas prices soared. The UK restarted an old coal plant, and the government may delay the closure of its remaining coal power plants. Meanwhile, the German government has passed emergency laws to reopen mothballed coal plants for electricity generation.
Asia is less reliant on Russia for its energy sources and hence the disruption in supplies is expected to have limited implications for Asia’s net-zero journey. Importantly, many Asian economies have reaffirmed their net-zero commitments at COP26, and their National Determined Contributions (NDCs) are likely to be strengthened prior to COP27 in November 2022.
With climate change forecast to hit Asia the hardest, there is increasing recognition in the value generated from having sustainable growth strategies and the costs of not taking environmental risks seriously.
It is also widely acknowledged that massive funding is required to combat climate change, and a large part of the financing will come from the bond market, in the form of sustainable and green bonds.
Across Asia, we have seen governments and policymakers make a concerted push to catalyse the growth of sustainable or green funding markets across their jurisdictions.
These efforts are clearly bearing fruit, as seen from the strong growth of green, social, and sustainability (GSS) bond issuances in Asia over the past two years amid broader challenges (higher yields, poor investor sentiment, and tightening financial conditions).
Tapping on the opportunities
We look to increase the weights of GSS bonds in our portfolios as the investable universe continues its healthy expansion.
Compared to two years ago, we have seen GSS issuances from more diverse sectors and countries, as issuers find specific use cases for bond proceeds amid expanded taxonomies.
In Asia, there is a good base of high quality (A-rated and above) GSS bond issuers out of Japan, Korea and to some extent, China. Even as the risk environment deteriorated over the last few months amid tightening financial conditions, the credit spreads of these issues have not widened significantly, further augmenting their status as defensive assets.
The financial sector will continue to play an important role in channelling funds towards sustainable activities, as seen from the following chart.
Many banks that are active in Asia have drawn up a sustainable finance framework and strategy, which involves making specific commitments and targets to finance sustainable activities. Issuance of GSS-labelled bonds will contribute to these efforts, and we expect to see more financial issuers going forward.
With the real estate sector accounting for 40% of global carbon emissions, there is also a big role for the real estate sector and property owners. We have seen real estate investment trusts (Reits) and property developers in Singapore issue bonds where the proceeds are used to invest in green technology infrastructure to make buildings more energy efficient.
Utilities and financials have accounted for most of total issuance since 2013
Asian policymakers continue to develop the sustainable bond market ecosystem within the region. Research suggests that higher disclosure requirements, introducing external certifications, and expanding taxonomies can help reduce information asymmetry and reduce funding costs for reliable green issuers.
At the same time, studies show that frequent bond issuers pay lower yields as greater information transparency gets priced in by potential investors. This should help to encourage repeated issuance and deepen the market further, presenting investors with more opportunities and greater diversification.
This article was originally published by Eastspring in August 2022.
Eastspring Investments, part of Prudential plc, is a global asset manager with Asia at its core. Eastspring is supported by 300+ investment professionals across 11 major Asian markets and distribution offices in North America and Europe, with a total of US$222 billion assets under management (as of 30 June 2022) on behalf of institutional and individual investors globally.
Endowus has three funds from Eastspring (as of 27 Sept 2022), including the Asia Sustainable Bond Fund and the Singapore Select Bond Fund.
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