The City of Toronto has launched a social debenture framework to fund investments in affordable housing, transit and other basic infrastructure, access to essential services and other projects that benefit marginalized and vulnerable Torontonians.
The city, which is waiting for more favourable market conditions to issue its first social bond, is the first municipality in Canada to launch such an offering. Environmental, social and governance research firm Sustainalytics issued a second-party opinion that found the framework “credible and impactful” and said it aligns with the International Capital Market Association’s 2018 social bond principles.
While Toronto also has a green bond framework, it’s intentionally keeping its social bond framework separate.
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“In some instances there are some entities that have combined social and green bonds and put them under the umbrella of sustainability,” says Heather Taylor, the city’s chief financial officer. “We kept them separate because some investors prefer separate mandates and we wanted to open ourselves up to a new sector of investors who’re not only looking for return on investment in terms of interest, but the social benefits as well. . . . We think there are a lot of motivated investors out there who are focused on ESG principles.”
Impact bonds are rapidly growing in popularity with institutional investors. According to the International Institute for Sustainable Development, US$323 billion in sustainable debt was issued in 2019, up from US$199 billion in 2017, US$57 billion in 2017 and US$15 billion in 2013.
Green bonds have been the primary driver of that growth, making up 80 per cent of issuances in 2019, compared to 15 per cent for sustainability bonds — issuances that direct their proceeds to a mix of green and social projects — and just five per cent for social bonds.
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According to Karolina Kosciolek, consultant at impact investing firm Rally Assets, green bonds have tended to be more popular because the projects they allocate their proceeds to lend themselves more easily to impact measurement practices.
“If you’re funding a renewable energy project or an energy efficiency project, there are evidence-based, science-based metrics that can be used to translate that impact back to investors,” she says. “For social impact investment, it can be a bit more complicated. There are a number of different frameworks for measuring beyond just outputs, such as the number of beneficiaries. It goes a little bit deeper when we talk about the actual change that’s been created from these investments.”
The question of what counts as impact and how to measure it is a challenge in the social bond space, she says. “When we talk about affordable housing, for one investor it might be enough to [look at] the number of individuals benefitting from it or the number of units, but others might say, ‘What is the difference between the rent rate versus the average rent rate?’ . . . Social bond issuers should be aware that there will be much more engagement from investors, because there’s this additional piece of the puzzle that they want to understand.”
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As well, she notes, institutional investors may associate social bonds with social impact bonds, a different type of investment structure where the bond’s return is directly tied to its level of social benefit. Unlike those investments, which didn’t see much uptake in the market, social bonds have the same investment structure as traditional fixed income.
“They’re considered a standard fixed income investment, which I think is positive in terms of growing investors’ allocation to impact investment,” says Kosciolek. “A lot of time, investors place a parameter around impact investing and they restrict them to a specific portion of the portfolio, such as a carve-out within their private market asset allocation, not realizing that they have this whole other portion of their portfolio that could be aligned to impact outcomes. Green and social bonds provide them with the opportunity to move their fixed income allocation to more impactful investments, and the risk/return profile of [those bonds] would be in line with other government bond investments in their portfolio, which is exciting for investors who want to grow their impact allocation without necessarily changing their asset allocation.”
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Fixed income impact investing allows investors to achieve a larger-scale impact than if they’d been doing so through the private markets, where they’re often limited by the investment ticket size, she adds.
Kosciolek believes the IMCA’s social bond principles have provided investors with more confidence in those issuances and the rigour of how the projects they’re funding are evaluated. “I think we’ll see more take-up on the social bond side, in the structure similar to green bonds.”
The coronavirus pandemic may also hasten that take-up. According to data from Morgan Stanley Investment Management Inc., the crisis has accelerated the issuances of both social and sustainability bonds, with social bond issuances up 74 per cent in the first two quarters of 2020 compared to 2019 and sustainability bonds up 32 per cent. Combined, this represented a 48 per cent growth in those bond issuances over last year. Supranationals represented 53 per cent of the new issuances, public agencies represented 29 per cent and corporates 17 per cent.
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“We have never seen such a fall in economic activity since the Great Depression and the need for an economic stimulus hasn’t been this great since [the same time],” says John Bai, vice-president and chief investment officer of Aviso Wealth Inc. and NEI Investments.
He notes this crisis presents the opportunity for governments in particular to invest in projects that prepare their cities, provinces and countries for the future. “Up to now, there’s been a strong sense of concentration of wealth and there’s a real opportunity to use this [crisis] to strengthen the social and physical infrastructure of your communities. We’re seeing this across the globe.”