Stockholm (NordSIP) – On June 24th, the Republic of Slovenia issued its inaugural sustainability-linked bond (SLB), the first such instance of this format being used by a European sovereign to borrow money in international markets.
Even considering the rest of the market outside of Europe, the only other SLBs came from Uruguay and Chile, in 2023. The perception was that Slovenia’s foray into the SLB market was characterised by ambitious targets that would allow investors to hedge against climate change.
Slovenia’s SLB
The bond is worth €1 billion, matures on 2 Juy 2035 and pays a 3.125% fixed rate coupon with a step-up/step-down mechanism applied to the final coupon payment determined by the performance against one key performance indicator (KPI) and two Sustainable Performance Targets (SPTs), selected from the Slovenian Sustainability-Linked Bond Framework. The security enjoyed a reoffer spread of 61 basis points (bps) over mid-swaps 4bps below revised price guidance. The SLB was priced at a 99.746 discount to provide a reoffer yield of 3.155%. Barclays, BNP PARIBAS, Credit Agricole CIB, Deutsche Bank, J.P. Morgan and OTP Banka. a acted as joint bookrunners for this transaction.
Demand was high, with final order books closing in excess of €6.5 billion. Geographically, most of the demand came from UK- and Ireland-domiciled investors (23%), followed by investors in the Benelux (20%) and Germany, Austria and Switzerland (15%). Domestic Slovenian investors and investors from Central and Easterm Europe (CEE) purchased another 11% and 2%, respectively. The remaining 26% was split between investors based in Southern Europe (12%), the Nordics (9%), France (5%) and other miscellaneous countries.
Sectorally, asset managers represented the most significant investor group, purchasing 54% of the securities. Another 18% went to central banks and other official institutions, 17% went to banks 5% to insurance and pension funds, 4% to hedge funds and 2% to other undisclosed investors.
The Step Ups
BNP PARIBAS served as the ESG Structuring Agent in the development of this SLB Framework. The Framework itself was drafted in line with ICMA 2024 SLB guidelines, as acknowledged by the Second Party Opinion it received from S&P Global.
The bond’s step up/step down mechanism is determined by the performance of a single key KPI, Total annual greenhouse gas emissions. The two targets are, 35% decrease of total GHG emissions by 2030 relative to 2005 baseline (SPT 1.1) and: 45% decrease of total GHG emissions by 2030 relative to 2005 baseline (SPT 1.2).
According to the press release from the Treasury Directorate of the Slovenian Ministry of Finance, if SPT 1.1 is not achieved and/or SPT notice is not published, the interest rate payable on the note will increase by 50 bps, commencing nine years after the settlement date. Conversely, if SPT 1.2 has been achieved, the interest rate payable will decrease by 50 bps, also starting nine years after the settlement date.
Ambitious Targets
At the time the mandate was announced, the Anthropocene Fixed Income Institute (AFII) reviewed it and considered the targets ambitious. “Having one KPI linked to emissions has ramifications for pricing in the primary market as well as how to analyse pricing in future, as it will be possible to link it directly to the probability of Slovenia achieving its decarbonisation target. We view this simple structure linked to emissions as positive for investors. The targets appear ambitious, and we estimate a 50% probability of achieving SPT 1.1 (i.e. 50% probability of step up) and a 10% probability of achieving SPT 1.2 (i.e. 10% probability of step-down). The significantly higher probability of a step-up relative to a step-down means the net option value is positive for the investor (upfront value: 0.158%; running value: 1.8bps) and therefore the SLB should price at a lower spread than a vanilla bond of the same maturity.”
The AFII concluded its analysis by noting that an important aspect of this type of bond structure is that “it creates a hedge for investors against a failure to transition. If an investor believes that equity assets will perform worse in high global temperature scenarios, tying bond coupons to the achievement of decarbonisation targets creates (more) negative correlation between the sovereign bond portfolio and equity assets, and thus provides additional portfolio benefits.”
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