Is SLB ambitiousness rewarded?

One of the central debates around the Sustainability-Linked Bond (SLB) asset class is the perceived ambitiousness of the target an issuer commits to. 

Judging whether “more” ambitious SLBs outperform is no straightforward task. Key Performance Indicators (KPIs) and their methodologies are still very heterogeneous, and the sample size of this rather young market is limited. For this initial research exercise, we have defined ambitiousness as whether the SLB includes at least one Science-Based Targets initiative (SBTi) approved target, looking at a sample of Euro-denominated bonds. 

Each SLB was paired with a similar conventional bond from the same issuer (i.e. controlling for currency, benchmark size and selecting a similar tenor). Using this approach, we were able to pair seven SLBs that incorporate at least one ambitious target (i.e. approved by the SBTi) and seven that do not include any ambitious targets.

Our initial finding has been that SLBs with an SBTi target typically trade better (i.e. tighter) compared to those that do not include at least one SBTi target. The average spread difference for the sub-sample with at least one ambitious target is +17.0 basis points compared to +21.4 basis points difference for SLBs with no SBTi targets. Notably, for the last couple of months this spread difference tends to persist – suggesting, potentially, greater scrutiny of the robustness of SLBs, particularly in more volatile market environments. 

As the SLB market matures, it should get easier to differentiate ambitious and not ambitious targets – beyond just looking at SBTi alignment. This should be encouraged. It should help reward issuers who are putting their money where their mouth is and setting (more) ambitious goals.

Methodology and definitions:

Guidance provided by the International Capital Market Association (ICMA) with the Sustainability-Linked Bond Principles (“SLBP”) states that targets should systematically reference science-based scenarios (e.g. SBTi), absolute levels (e.g. carbon budgets), or official country/regional/international targets (e.g. Paris Agreement on Climate Change and net-zero goals). Therefore, an ‘ambitious’ target is defined as using the Science-Based Target initiative “SBTi” approach with specific annual reduction targets (e.g. 4.2% linear reduction per annum for Scope 1 and 2) to be aligned with limiting warming to 1.5°C. This research did not make a distinction between Scope 1 and 2 emissions and Scope 3 emission targets approved by the SBTi nor make any maturity adjustments.

We reviewed Euro currency, investment grade (as rated by the Bloomberg consolidated credit rating) sustainability-linked bonds issued to identify those that had at least one ‘ambitious’ target (as defined above). Of the 23 bonds with ambitious targets, we then looked to see if each issuer had a conventional issuance that was similar in terms of size (average difference +/- 85mln), issuance date (average difference +/- 1 year), and coupon (average difference +/- 66 bps). 

Total population of SLBs: 62*

Total number of those with at least one ambitious target: 23*

Total number of SLBs with at least one ambitious target with a suitable conventional: 7

Total number of SLBs without at least one ambitious target with a suitable conventional: 7

*This includes multiple SLBs from the same issuer (e.g. Enel)

Thank you to our intern Tom Hereijgers for conducting the underlying analysis.

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