ETFs Can Be 'Bonded' to Green Goals

My most recent article talked about the Securities and Exchange Commission's new environmental, social and governance disclosure rules for companies. This step was taken to help investors better understand what steps companies are taking to manage their environmental impact. Rules like this are needed, because when you invest in shares of a company, you are investing in the entirety of that company and not just one reporting segment, business line, or product. What if there was a way to manage your exposure to a company or government for that matter, so that you only support projects that work directly toward ESG goals? As it turns out, companies and governments alike will often issue bonds to finance specific projects and increasingly, many of these bonds have been issued to finance environmentally friendly projects and initiatives. In this article, I'm going to take a look at two bond funds that are in what has been called the Green Bond space. The first (and the first launched) is the Van Eck Green Bond ETF , which tracks the S&P Green Bond U.S. Dollar Select Index and the second is the iShares USD Green Bond ETF , which tracks the Bloomberg MSCI USD Green Bond Select Index. Both funds have a 20-basis point expense ratio meaning that a shareholder with $1,000 invested over a calendar year would pay $2.00 in fees over the period. The Funds Project finance has been around for decades, but it was only in 2014 that the Green Bond Principles were established and since they rely on four core evaluative components, which focus on transparency around the use of proceeds, the process of project evaluation and selection, the management of the proceeds and finally annual reporting on progress, including use of funds and management of proceeds. It is using this framework that index providers S&P and MSCI go about selecting bonds for these indexes. The S&P Select index is a subset of the broader S&P Green Bond Index which includes all investment-grade credit ratings (AAA to BBB-) and below investment grade rated bonds rated BB+ or lower. In the case of conflicting ratings from S&P, Moody's, and Fitch credit rating agencies, the lowest rating among the three will be used. Unrated bonds or bonds in default are ineligible. There are issue size restrictions as well (think market capitalization minimums but for each bond series). Issuers are capped at 10% overall index weight and below investment grade bonds are capped at 20% of the total index weight. The security selection guidelines for the MSCI index are almost a carbon copy of the S&P index except for items like unrated bonds will assume the overall credit rating of the issuer from what I can tell. Both indexes are rebalanced monthly and both indexes are market value-weighted at the security level. Looking at the funds, both have similar characteristics like a roughly 5.25 year duration, an SEC 30-day yield of 3.69% (iShares) and 3.94% (Van Eck), and bonds held 271 (iShares) and 323 (Van Eck). You might think that iShares would have a clear advantage with their ability to access global fixed income markets, but in reviewing the country allocation between the two funds Van Eck represents corporate and sovereign green projects from 38 nations, while iShares has a more limited 23 country exposure. In keeping with the slightly lower yield figure, the iShares fund has an overall higher credit quality with a 98.48% allocation to investment-grade bonds as compared to Van Eck with 77.94% of their fund marked BBB or higher. Looking through the holdings, I was able to review some of the bonds held in both funds and spot check the projects they are tied to and while some have nebulous use cases like climate change or energy efficiency or are issued by companies like Verizon Communications , Duke Energy or Baidu , for the most part, both funds seem to live up to the labeling. Wrap It Up Greenwashing has been a big problem in equity-based ESG ETFs, but while the SEC is just getting around to addressing reporting for equity issuers, a clear framework for bond issuers has been in place for some time. As you can see from the chart, there are periods where BGRN (iShares) outperforms GRNB (Van Eck) but neither fund -- nor the Barclays Aggregate -- for that matter is immune to changes in interest rates. Given the direction and pace of imminent rate hikes both here and abroad I would say starting to step into a position in either of these funds starts to make sense towards the end of the third quarter or early in the fourth quarter, if you're looking for a targeted environmental focus.

ETFs Can Be 'Bonded' to Green Goals

What if there was a way to manage your exchange-traded fund exposure to a company or government for that matter, so that you only support projects that work directly toward ESG goals? Let's look at two such funds.

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