Sustainability-Linked Bonds: A New Superstar Asset Class?

Sustainability-linked bonds, or SLBs, are a relatively new asset class that investors should know about.

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People are becoming more and more aware of the environment, and there are several reasons why. Thanks to the internet, the world is more closely connected than ever before, and many voices that were too low to be heard before have finally surfaced.

It’s also because we see the glimmers of what global warming, an evil of our own making, can do to the world in the form of more forest fires, heatwaves, and unusual temperature conditions across the globe.

This knowledge and awareness reflect in people’s lifestyle habits and the changes they are slowly making, and it permeates every facet of their lives, including investing.

Businesses are adopting better ESG habits and are becoming more transparent about it as well. Eco-investing, ESG investing, and green financing is how retail and institutional investors are showing more interest in environmental-friendly businesses.

But even if you are not deeply concerned about melding your environmental-friendliness with your investing, there is an asset class in this particular domain that you need to know about: sustainability-linked bonds.

Sustainability-linked bonds

Sustainability-linked bonds, or SLBs, are a new type of debt instrument that’s gaining traction. It’s especially new to Canada, and so far, only two major companies, Enbridge and Telus (TSX:T)(NYSE:TU), have issued SLBs.

The concept of an SLB is relatively simple. A company (or a public entity) issues a bond and ties it up to specific sustainability-related KPIs. For example, a company vows that it will reduce its carbon emissions by a certain percentage within three years. If it doesn’t, it will hike up the coupon, that is, the interest bondholders are receiving.

To keep this bond attractive to investors, it doesn’t work the other way around, and the companies usually don’t offer a lower coupon if they meet their KPIs. For investors, it’s an excellent way to combine environmentally-conscious investing with the safety of capital (since bonds are incredibly safe investment assets).

For businesses, the SLBs are proving to be a significantly more affordable debt element. Enbridge saved five basis points on its US$1 billion SLBs, while Telus saved six basis points on its $750 million SLBs.

Telus stock

If the 10-year long notes Telus is issuing at a 2.85% interest rate are not your cup of tea, Telus stock might be. It’s offering a juicy 4.65% yield, and thanks to its status as a Dividend Aristocrat, the payouts are more likely to go up than down. But a decent yield isn’t the only good reason to consider Telus stock. The telecom giant is in a powerful position within the sector and offers impressive growth potential.

Even if it sticks to its 10-year compound annual growth rate (CAGR) of 12.3%, which has slowed down a bit lately, the company can help you create a decent-sized nest egg if you hold on to it for a couple or more decades. It has about 15.9 million customer connections (mostly wireless subscribers), which might help it boost revenues as more people switch to 5G plans.

Foolish takeaway

The SLBs are expected to become a booming new asset class, especially in Canada, thanks to its energy-centric economy. Following the successful experiment of Enbridge and Telus, more energy players (and other corporations) might start issuing SLBs to raise capital and get a decent “greenium” on the debt.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Adam Othman has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Enbridge. The Motley Fool recommends TELUS CORPORATION.

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