MDB Bonds – Solid Yields for SDG-Supportive Investments

    This article is a part of the NordSIP Insights – Handbook – “Investing Along the 17 Shades of SDGs”.

    One of the main hurdles to achieving the UN’s ambitious sustainable development goals (SDGs) set out in 2015 by the UN’s Agenda 2030 is galvanising the necessary funds towards these ends.

    At the forefront of this struggle, Multilateral Development Banks (MDBs) have spent the last seven decades refining the expertise necessary to succeed in this journey. Now, new indexes and ETFs make it possible for investors to help MDBs close the US$ 2.5 trillion SDG funding gap while accessing an attractive low-risk asset class.

    Stable and attractive yields

    MDBs are supranational financial institutions dedicated to providing financial support and know-how for economic and social development projects. Also known as multilateral lending institutions (MLIs), they were established between the 1940s and 1960s both to ensure that funding for development would be available at reasonable terms and to support emerging markets in their economic convergence.
    These banks’ ownership is split between multiple member states. MDBs are more policy- than profit-driven. Lending criteria are prudently determined and, besides the banks’ status as preferred creditors, guarantees from a government are usually required to grant loans to specific home-country projects. Due to strong backing by G7 countries and robust capital position, supranational banks feature high credit ratings and have access to the bond market at low funding rates.

    Due to their high, stable credit ratings and resilience to weakening in the credit quality of their member countries, bonds of the largest global MDBs should not offer a credit risk premium over benchmark government bonds like US Treasuries in USD or German Bunds in EUR. MDBs do however offer extra yield, which over the past three years ranged from 5 to 25 basis points (bps). This incremental yield is partly a compensation to investors for slightly lower market liquidity.

    A natural fit to fund the SDGs

    MDBs’ mission to fuel inclusive economic development and convergence naturally positions them to target projects that support the SDGs, so that MDB bonds are a are natural fit for ESG and socially responsible investors.
    The International Bank for Reconstructions and Development (IBRD), the International Finance Corporation (IFC) and International Development Association (IDA) as well as the European Bank for Reconstructions and Development (EBRD), the Asian Development Bank (ADB) and the African Development Bank (AfDB) have issued various bonds, for which the use of proceeds is targeted at fulfilling the SDGs, including gender equality (SDG5), good health and well-being (SDG3), responsible consumption and production (SDG12) and climate action (SDG13) clean water and sanitation (SDG6), life below water (SDG14) and no poverty (SDG1) and zero hunger (SDG2).

    These projects involve creating physical infrastructure such as roads, railways, bridges, telecommunication, water management facilities, solar and wind farms, schools, hospitals and other social infrastructure projects.

    Investors can support the 2030 agenda and invest in MDB bonds through funds that track the “Solactive UBS Global Multilateral Development Bank Bond” index family, introduced in the Spring of 2018. One such example, the Solactive UBS Global Multilateral Development Bank Bond USD 25% Issuer Capped Index” focuses on MDB fixed rate bullet or callable international bonds, rated no less than AA- (S&P) or AA3 (Moody’s), denominated in US Dollars, with a minimum of US$ 500 million outstanding with more than 12-month time to maturity. Each issuer is weighted by market capitalisation and capped at 25% of the index.

    The index offers higher yields compared to duration-matched US Treasuries with an option adjusted spread of 6 basis points (bps) (as of September 2019). Provided no defaults are incurred on this triple-A portfolio going forward, the mentioned 6 bps is suggestive of expected outperformance of similar magnitude. Historically, the option adjusted spread over the past eight years gradually compressed from 45 bps to the current level. The index duration is just above 3 years, while yield-to-maturity has increased in the recent period to 3.3%.

    By investing in this index, investors can gain exposure to MDB bonds and the impact investments they conduct across the SDGs, their high-grade certified by triple-A issuer ratings, good liquidity, and a modest yield-pickup relative to US Treasuries.
    UBS offers an ETF in this spirit, the “UBS ETF (LU) Sustainable Development Bank Bonds UCITS ETF”, which is available in accumulating and distributing share classes, in USD, or hedged to Swiss Franc or to the Euro. The funds’ holdings replicate the benchmark and provide a diversified exposure to sustainable bonds issued by IBRD, IFC, IDA, EBRD AfDB and ADB.

    Featured image © Shutterstock

    Filipe Albuquerque
    Filipe Albuquerque
    Filipe is an economist with 8 years of experience in macroeconomic and financial analysis for the Economist Intelligence Unit, the UN World Institute for Development Economic Research, the Stockholm School of Economics and the School of Oriental and African Studies. Filipe holds a MSc in European Political Economy from the LSE and a MSc in Economics from the University of London, where he currently is a PhD candidate.

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