London – European green bond investment will reach a key milestone in 2018 as the first green bond funds attain their three-year track record, which many investors and intermediaries consider important when selecting funds, Fitch Ratings says. Nine funds with combined assets under management of about EUR1 billion are set to reach their three-year point in 2018.
Green bond funds are rapidly emerging as a sub-asset class in fixed-income funds as investor demand for “green” investments grows. We estimate that Europe-domiciled green bond funds totalled about EUR2.8 billion at end-2017, up nearly 40% on end-2016 (but still dwarfed by the wider fixed-income fund segment). Clearer regulatory classification of green bonds, likely later this year, could be another spur for investment.
Green bond fund investors may place significant weight on the green credentials of funds but “greenness” is not the sum total of their risk-return profile. Performance track records are still too short to draw meaningful conclusions but funds can be differentiated by credit quality. We estimate the fund credit quality rating of European green bond funds to be in the ‘BBBf’ to ‘Af’ range, based on our global bond fund rating criteria.
European green bond funds tend to underweight the highest-quality sovereign, supranational and agency exposures that dominate green bond indices, in favour of sectoral and issuer diversification, lower duration and yield.
We highlighted diversification as a challenge for green bond funds in 2017, with the sector still in its infancy and the limited issuance resulting in concentrations by sector and issuer, particularly where funds apply exclusion filters in addition to greenness. Diversification is increasing as issuance grows and is becoming comparable to broad fixed-income funds, but not corporate bond funds.
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