We examine in this paper sustainability-linked bonds (SLBs) whose issuance now totals more than USD 200 bn. A typical SLB has a coupon step-up linked to the issuer achieving a predetermined sustainability performance target. First, we recall why a SLB and a counterfactual vanilla bond issued by the same borrower should be and actually are priced with the same issuer yield.
Our analysis then shows that the SLBs parameters (mainly step-up period as a fraction of the bond’s tenor, coupon step-up size and step-up activation probability) cannot be manipulated to lower the issuer’s cost of capital significantly, which is presumed to be the very goal of the SLB product. There is a structural design flaw in the SLB mechanism: setting a significant coupon step-up does not suit the issuer’s nor the investors’ interests, considering conditionality. This creates a no win situation for the issuer and investors alike and explains the “benign” use of SLBs by current market participants.
Les Chaires Armand Peugeot, Énergie et Prospérité, et Économie du Climat organisent, les 6 et 7 décembre 2023, la 10ème édition de la conférence internationale annuelle sur les enjeux liés à la mobilité.