Big Read: Can social bonds come back from their post-covid slump?

Social issuance spiked as policymakers rushed to fund their crisis response but has fallen again post-pandemic. Can new issuers and instruments bring the market back to life?

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The covid-19 pandemic came as an unexpected gift to the social bond market.

While green bonds had seen steady growth in the run-up to the pandemic, the social bond market had remained roughly stagnant, with issuance levels even shrinking from 2018 to 2019.

That changed with the advent of covid, as large sums were raised by public sector borrowers to fund the response to the crisis. The most notable of these issuers was the EU, which raised €98.4 billion from 2020 to 2022, becoming one of the world’s largest GSS+ bond issuers in the process.

Yet after surging to previously unthought-of highs, the market was the hardest hit of any ESG label in the 2022 slump. As the green bond market shrank by 16 percent, social bond issuance fell by a hefty 41 percent. Even the sustainability-linked bond (SLB) market in the throes of sustained controversies only posted a 32 percent decline.

Social bond issuance continued to decline into the first quarter of 2023, with primary sales down 23 percent from Q4 last year.

While volumes are still above pre-pandemic levels, the market’s future pathway and growth prospects remain up for debate.

“Cutting to the chase, yes it’s down, and it’s likely to stay below the peaks of 2021 for quite some time because of the unique circumstances that led to that surge,” says Robert White, head of the Americas green and sustainable hub at Natixis.

At the same time, he adds, the pandemic proved to issuers that there is a base level of demand for social bonds. Ignoring the decreases from pandemic levels, the segment has shown a reasonable increase in the proportion of the overall GSS+ market.

“If we just went from 5 percent to 16 percent everyone would be saying that’s a reasonable increase,” says White.

Similarly, Columbia Threadneedle’s Tammie Tang says that, while the immediate pressure of the covid pandemic and the war in Ukraine has abated, there are still material social issues that need funding to alleviate.

“Natural reasons for funding in surprising scale and speed may have gone, but we’re doing this because the issues are material,” says Tang, who manages Columbia Threadneedle’s UK social bond fund. “We are living at a point in time where inequality is big, it is widening and whenever there are systemic shocks, it does hit those worse-off in society the worst.”

At present, the social bond market is dominated by several SSA issuers. French government agencies CADES and Unedic account for 32 percent of issuance, while the EU makes up 33 percent, according to figures from Natixis.

Of the remaining issuers, the majority are financial firms. Only a handful of non-financial corporates have come to the market.

Going for growth

For White, the main area of growth for dedicated social bonds is the financial sector.

However, he stresses the importance of focusing on lending policies and criteria for financial institutions issuing social bonds, equating this to scrutinising actions on fossil fuel lending for banks issuing green bonds.

“There should be detailed questions on what your lending criteria is, especially for marginalised areas and communities,” he says. “How do you deal with debt collection? Is that fully outsourced or are you doing it in-house? How are you monitoring that? What assistance do you provide?

“If you’re just a payday lender who’s going into marginalised communities and saying, ‘Here’s a bunch of money, go buy a car’, obviously that’s not going to cut the mustard.”

White points to National Australia Bank as a good example of this. The lender, he says, has a programme that has dramatically reduced delinquencies but also improved wellbeing and boosted the net promoter score of those who have fallen into indebtedness by offering support services and remediation plans.

Social bonds are also gaining some traction in emerging markets, says David McNeil, head of responsible investment research at Insight Investment.

He identifies digital connectivity as a major theme, pointing to the number of telcos and tower infrastructure firms coming to the market. APAC has also seen issuance by an increasing number of health and wellbeing firms, he adds, and this theme is beginning to emerge in other developing regions.

White agrees that emerging markets show a lot of growth potential. “This is a huge area that could be tapped,” he says. At the same time, he notes that data remains a significant barrier to issuance on the social side, particularly in terms of robustness and having sufficiently granular data to identify target populations for expenditure.

This makes impact reporting especially difficult. “We always end up with this weird balance of qualitative and quantitative with social,” says White.

Alternate structures

The social market is not limited to explicitly labelled social bonds. The absence of non-financial corporates from the dedicated social bond space is largely driven by their presence in the sustainability bond market.

Where corporates have eligible social expenditures, they “will always bundle those in” alongside green expenditures into a sustainability bond, says White. Given the higher number of forced buyers from dedicated green bond funds versus social bond funds, labelled debt with a green tint is a more attractive prospect to issuers.

On the sovereign side, SDG bonds issued by Mexico and Benin are of particular interest to Natixis. While Mexico’s framework allows it to allocate to green as well as social projects, it has so far put proceeds only towards social-focused SDGs.

Another country that has turned to the SDG market is Uzbekistan, while Mongolia recently published its SDG bond framework.

“The SDG label can work incredibly well for sovereigns,” White says. “It can become a very helpful way to communicate on which of the 17 pillars you are directing your funding and capturing both the green and the social in a really articulate way.”

Government agencies will often be collecting SDG-specific data anyway, he adds, so tying funding and allocation to these will also help solve the challenges of impact reporting and framework design.

Columbia Threadneedle’s social bond funds will also buy vanilla bonds issued by issuers with social characteristics, says Tang, noting that the manager bought bonds from the Council of Europe Development Bank before it put a social label on its issuance. “Everything they did was social; their aim was social,” she says.

Similarly, Columbia Threadneedle has bought vanilla bonds from universities “because we knew that proceeds were being used to build new facilities to take forward the education agenda” and will often look at healthcare providers and medical device manufacturers.

SLB focus

Sustainability-linked bonds with social KPIs are also growing in popularity. While the majority of SLB targets are green, with a heavy emphasis on emissions, McNeil notes that a range of issuers have targeted social outcomes as well, especially in the areas of healthcare access and population health status.

On both the use of proceeds and SLB side, McNeil says Insight Investment has seen some interesting strategies from pharmaceutical issuers that have rated quite highly on its internal assessment framework as a result of high-quality structures and targets.

He warns, however, that some issuers are reluctant to set targets for factors outside their direct control – the equivalent of reluctance to tackle Scope 3 emissions on the green bond side.

“Probably the same principle applies to SLBs targeting social outcomes such as employment, health and wellbeing,” he says. “There is a bit of reluctance to set SLB targets on those pillars sometimes but we do see good examples of them.”

White argues that SLBs are often easier to use for corporates looking to integrate social considerations into their borrowing. Social KPIs are more accessible, he says, with topics such as diversity and health and safety less about dedicated projects and capex than programmes, policies and procedures.

While emissions targets “will and should continue to be the majority of targets”, White says these can “absolutely” be supplemented with social targets.

For some sectors, SLBs can offer an option to shift into becoming a more socially focused company. White points to Novartis, a pharma firm which tied its financing rate to patient reach in low and middle income countries in its SLB.

Regulatory reach

As with the environment, there is an urgent need globally for funding to address social issues. “There is a very wide financing gap between what is flowing through to social expenditure and what is ultimately needed to meet the some of the SDGs by 2030,” says McNeil.

This raises the question of why the social label has failed to gain the same traction with bond issuers and buyers as its green cousin.

Market participants say one explanation for the disparity is the lack of formalised regulatory frameworks around social expenditures. Environmental funding has a green taxonomy, widespread sovereign and supranational labelled issuance and an EU green bond standard, but these are absent on the social side.

However, McNeil remains positive. While the social market will not reach parity with green a few years into the future, the market is moving into a second phase, with more maturity and greater focus, he says.

For Tang, the situation is simpler.

“If we can help contribute to reducing and addressing that inequality using the power of the biggest asset class, we believe that is intended to and benefits everyone. There are big multiplier effects in the economic and non-economic sense.

“The social bond market is not in the headlines because we’ve had no big global systemic shocks but I think its potential lies in more needing to be done to deal with these massive inequality issues. The public markets need to play a role.”