How Do Green Bonds Work?

What are green bonds?

Green bonds work in a similar way to corporate or government bonds. They are fixed-income financial instruments that entities issue to finance projects and operations.

What sets green bonds apart is that they are specifically intended to fund or refinance green projects — projects that are positive for the environment. These bonds can be used to fund a variety of sustainable projects that focus on renewable energy, sustainable forestry, responsible waste management or clean transportation.

Green bonds help companies show that they are working towards their sustainability goals, which is important to stay competitive in today’s market.

How big is the green bond market?

While the issuance of green bonds continued to grow over the last decade, it’s in the last few years that we have seen a substantial acceleration.

According to Climate Bonds Market Intelligence, the green bond market reached a record US$517.4bn at the end of 2021, representing the highest total since market inception. Its explosive growth expected in the years to come makes green bonds particularly compelling.

The chart below shows the potential magnitude of growth, with green bond issuance volumes forecasted to reach US$5 trillion by 2025.

A new type of green bond

While green bonds can be very effective tools in the fight against climate change, there are various critical aspects of the traditional green bond that could be optimised, particularly around the manual processes associated with monitoring of use of proceeds, underlying asset performance and environmental impact.

To solve these issues, we have seen the emergence of tokenized green bonds tied to underlying asset data. These are green bonds that are tradable, blockchain-based financial products tied to an underlying data set that is verifiable and tamper-proof, allowing for transparency on use of proceeds, asset performance and evidence that positive climate action has actually occurred.

Other benefits include giving access to smaller investors, providing the ability to track the environmental impact of an investment on a timely basis, and being able to be created, transferred and audited with few friction costs and intermediaries.

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