Amazon Bond a “Template” for Upscaling Carbon Removals
World Bank’s US$225 million nine-year deal will generate high-quality carbon credits via reforestation projects.
Investors believe a first-of-its-kind bond tackling deforestation in Brazil has set a precedent for transactions seeking to increase private investment into climate solutions in emerging markets and developing economies (EMDEs).
Last week, the World Bank unveiled details of its Amazon Reforestation Outcome Bond, which aims to funnel private investment into the generation of high-quality carbon removal units (CRUs) through reforestation projects in the Amazon rainforest.
A portion of the bond’s target investment returns will be linked to the value of the CRUs generated by these projects – with bondholders paid from 2028-33. The World Bank will use its AAA credit rating to direct US$36 million of capital to Brazil-based Mombak, a company which supports reforestation projects across the country. Big tech behemoth Microsoft has agreed to purchase credits from Mombak equivalent to 1.5 million tonnes of carbon removals.
“This innovative transaction provides a potential template for similar transactions in the future, helping to raise funding for projects [in EMDEs and elsewhere] that may otherwise lack the financing required,” Stuart Chilvers, Fixed Income Fund Manager at Rathbones Asset Management, told ESG Investor. “It could also help to drive further innovation within fixed income markets.”
The bond has a minimum guaranteed annual return of 1.745% but could reach 4.362% if projects perform as expected.
Asbjørn Purup Andersen, Senior Portfolio Manager at Denmark’s Velliv Pension, which also backed the deal, said that the bond is a “great addition” to the asset owner’s impact-focused portfolio.
“The valuation is very attractive for Velliv’s pension savers, as the ‘AAA’ principal protection eliminates downside risk,” he said. “The bond structure helps to channel funding towards EMDEs, where capital is most needed and creates the biggest impact, [as] the risk-transformation of the bond structure allows Velliv to allocate more capital, since the actual project risk is very limited.”
The bond marks Velliv’s fourth investment in outcome bonds issued by the World Bank.
“These blended finance structures allow investors to obtain exposure to specific outcomes that are not widely available within the public fixed income market,” added Stephen Liberatore, Lead Portfolio Manager for Fixed Income Strategies at global investment manager Nuveen.
“They are also generally template-like in nature, which allows for additional issuances with different participants. This serves to expand the opportunity set for investors while providing the potential for scalability in the future.”
Variety of benefits
Alongside the decarbonisation benefits provided by reforestation, Ellen O’Doherty – Impact Credit Analyst at global investment manager T Rowe Price – pointed to the biodiversity and social co-benefits.
“Reforesting degraded land helps to protect and preserve ecosystems by planting native biodiverse forests with endangered species that have been severally impact by deforestation and would otherwise have been used for cattle pastures,” she said. “We expect to measure this impact through hectares of land protected, conserved and restored, and through the number of species strengthened.”
Social co-benefits include providing equitable and quality livelihoods for local communities in Brazil, she added. T Rowe Price will measure this impact through the number of livelihoods supported, employment supported, and gender equity.
“In addition to the clear positive impact, this transaction offers our clients a compelling financial return potential both our impact and more conventional fixed income strategies can benefit from,” O’Doherty said.
“Defensive bonds like this [one] help to protect portfolios from draw-downs in large ‘risk off’ events. For example, the best performing bond in our Impact Credit strategy during the Silicon Valley Bank crisis was the International Bank for Reconstruction and Development Wildlife Conservation Bond.”
Research has found that 13.2% of the original Amazon biome has been lost, largely due to deforestation, which equates to more than 85 million hectares – an area equivalent to 10% of the size of the US or China.
2023 reports from the World Wide Fund for Nature (WWF) found that the world is severely failing on halting and reversing deforestation. Changing land use and decimating forests to supply international trade in soy, palm oil and cocoa and coffee resulted in an estimated 392 million tonnes of CO2 emissions in 2021, despite a COP26 commitment to prevent this.
Globally, at least 100 times more public funding is spent on environmentally subsidies (US$378 billion – US$1 trillion) than on finance for forests (US$2.2 billion), it added.
Yet 2023 research by Forest 500 found that 40% of companies and financial institutions most at risk of driving deforestation have no formal deforestation policy.
Removal over avoidance
The launch of the outcome bond follows the World Bank’s announcement last year that it would work to expand high-integrity carbon markets by supporting 15 countries in generating income through the preservation of their forests – an initiative it expects to generate over 24 million carbon credits a year.
As such, this is the World Bank’s first bond which links investors’ financial returns to the removal of carbon from the atmosphere, differing from past transactions which have linked to the sale of carbon credits from avoided emissions.
“Of the three types of carbon credits, we are comfortable with those that represent reduction or removal versus those [representing] avoidance,” said Nuveen’s Liberatore. “Similar to the deals we have invested in previously that involved reduction credits, a removal credit is tied directly to an emissions-reducing activity actually occurring, such as the planting of native species, or the elimination of the need to burn biomass to produce potable water.”
These activities are more easily measurable when compared to an avoidance credit – where an entity must try and measure something not occurring, he said.
There is a growing need for high-quality carbon removal projects to meet the goals of the Paris Agreement, Chilvers from Rathbones insisted. “It’s important to focus on continued improvements to the carbon credit market to ensure accurate baselines, avoidance of leakage and double counting and permanence, recognising that carbon credits currently vary in quality,” he said.
He added that Rathbones is “comfortable” that the credits generated from the World Bank’s scheme will be credible.
“When assessing the quality and durability of carbon removal projects, it is important to consider factors such as changing land-use demands, economic pressures and the impact of climate change,” said Sophie Lawrence, Stewardship and Engagement Lead at Rathbones Greenbank. “These risks can be reduced if projects are well governed and designed to be resilient to climate shocks.”
Supported reforestation programmes will be externally certified by Verra, and Conservation International will establish and measure impact criteria to ensure investments are delivering robust benefits.
“A variety of partners and financing tools are needed to support the Amazon and help the people there pursue better livelihoods, protect its incredible biodiversity, and safeguard its global role in mitigating climate change,” said Jorge Familiar, Vice President and Treasurer, World Bank.
“As demonstrated by the historic level of participation in [this] transaction, private investors are eager to connect their financial return to positive development outcomes in the Amazon region.”
The US$225 million nine-year principal-protected transaction is the World Bank’s fifth outcome bond since 2021.
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