Towards a Greenification: Exploring the Green Bond Premium

Introduction

Starting from the Industrial Revolution, the quality of our life has been increasing over the years, due to the unbelievable development of new technologies. Despite the improvements in people’s daily lives, there have been also more and more damages to our planet. The continuous growth of the World’s population, associated with the scarcity of resources, has required an immediate response to the problems associated with the exploitation of the planet and climate change occurring in the last years, before it will be too late. Consequently, a transition towards a greenification of our economy has been become a central topic by countries over the world. To promote this new challenge and to satisfy the ethical intentions of some investors, some financial tools have been used to address capital flow into green projects.

Green bonds may be thought as a suitable financial instrument to promote the transition towards a greener and more sustainable economy. There is not a universal definition of them, but from a financial perspective, they are comparable to conventional bonds. The difference between the two debt instruments lies in the use of the earmarked proceeds. In fact, green bonds build a bridge between the financial system and the environmental goals, using their proceeds to finance green projects.

Nowadays, one of the most discussed topics regarding green bonds is the existence or not of a green bond premium. Some studies are in support of lower yields for green bonds, and hence the existence of a negative greenium, others do not. Consequently, there are mixed results in the literature, depending on the choice of the sample and the method used by each author.

One of the objectives of this study is to increase the existing literature, providing further analysis on the research of the green bond premium on the secondary market. Different hypotheses are formulated and tested: first, the existence of a green bond premium on the secondary market, within the sample; then, if the green bond premium varies across different sub-samples. Two datasets are defined, a green one and a brown one, and through the matching method, a bond-pair sample is created. A panel regression model with fixed effects is run to estimate the green bond premium. Inspired by previous studies, also the definition of the potential determinants of the green bond premium is investigated in this analysis, through a cross-sectional regression model. The analysis is performed on 35 bond-pairs, all EUR-denominated and investment-grade, on the secondary market, taking a period from January 2, 2018, to December 14, 2020. The results show that, on average, a negative greenium of -3.20 bps exists for the EUR-denominated bonds present in the sample on the secondary market. Further, the ESG risk levels are significant drivers of the green bond premium: the negative greenium is greater for low ESG risk level rated bonds.

The rest of this study is organized as follows. Section 1 provides an overview of the green bonds, giving their definition, the regulatory framework, an examination of the evolution of the green bond market, and their benefits and limitations. Moreover, it introduces the green bond premium concept and collocates it in the current literature. Section 2 presents the empirical analysis conducted to assess the green bond premium on the secondary market. In particular, the two datasets are described, the matching method is explained, the methodology is detailed, and finally the results are reported. Finally, Section 3 summarizes the results and offers some conclusions.