Sovereign Green Bonds or SGrBs are a unique form of debt that governments issue in order to fund ecologically friendly projects. SGrBs were introduced in India via the Union Budget, 2022-23. Further, on similar lines with respect to designating instruments under the Green Bonds Framework, SEBI introduced additional disclosures which were yellow bonds (solar energy and related sector) and blue bonds (water management and marine sector). This enabled strengthening within the framework by broadening the definition and scope of the green bonds. 

Green Bonds, also called Climate Bonds, are a type of fixed-interest instrument issued by an entity/sovereign/inter-governmental organization/corporation. The funds of these bonds are solely used to finance “green projects”, such as: renewable energy, sustainable agriculture, and waste management. These bonds are in line with India’s commitments under the Paris Agreement, to cut down emissions and meet green infrastructure-related expenses.

Key Drivers Behind India’s SGrB Initiative

India’s push for Sovereign Green Bonds is motivated by several factors:

• Global Obligations: India aims to reduce emissions intensity by 45% by 2030 (compared to 2005 levels) and achieve net-zero emissions by 2070.
• Developmental Goals: The bonds will fund public sector projects that address climate change while fostering economic growth.
• Investor Demand: There is a growing interest from investors in environmentally sustainable projects, which these bonds aim to attract.

The introduction of SGrBs positions India among the increasing number of countries utilizing green finance to meet both environmental and economic objectives.

Differences Between Sovereign Green Bonds and Conventional Bonds

Sovereign Green Bonds (SGrBs) and conventional bonds both serve as debt instruments for raising capital, but they differ significantly in purpose, use of proceeds, and investor appeal. Here are the key distinctions:

1. Targeted Financing: SGrBs are dedicated to funding projects that have a clear positive environmental impact, while conventional bonds can fund a variety of initiatives without an environmental focus.
2. Investor Focus: SGrBs attract investors who prioritize sustainability and ESG criteria, whereas conventional bonds appeal to a wider audience primarily concerned with financial returns.
3. Risk Management: The risk associated with SGrBs is mitigated by government guarantees, making them a safer investment compared to many conventional bonds.
4. Financial Returns: While SGrBs may offer lower yields due to their premium pricing, they provide stable returns backed by government support.
5. Tax Benefits: Both types of bonds may offer tax incentives, but the specifics can differ based on local regulations and the nature of the bond.

In conclusion, Sovereign Green Bonds represent a distinct category within the bond market that aligns financial investments with environmental sustainability goals, making them an attractive option for socially responsible investors while still providing the security associated with government-backed securities.

How Sovereign Green Bonds Framework Operate

The Sovereign Green Bond Framework is designed around internationally recognized principles established by the International Capital Market Association (ICMA). The operational steps include:

1. Use of Proceeds: Funds raised through SGrBs are exclusively allocated to finance or refinance green projects that align with India’s Sustainable Development Goals (SDGs). Eligible categories include:

• Renewable Energy: Investments in solar, wind, and biomass projects, including energy storage solutions.
• Energy Efficiency: Upgrades to energy-saving systems in public infrastructure, including LED lighting and building retrofits.
• Other Projects include: Clean Transportation, Sustainable Water and Waste Management, Biodiversity Conservation, and Pollution Control.

Exclusions:

Certain projects are explicitly excluded from funding through SGrBs to ensure alignment with environmental objectives:

• Projects involving fossil fuel extraction or production.

• Nuclear power generation initiatives.
• Direct waste incineration projects.
• Initiatives related to alcohol, weapons, tobacco, gaming, or palm oil industries.

2. Project Evaluation and Selection Process: The evaluation process is overseen by the Green Finance Working Committee (GFWC), chaired by the Chief Economic Adviser. This committee includes representatives from MoEFCC, MoHUA, MoAFW, MNRE and other ministries, ensuring that selected projects align with environmental objectives. The evaluation mechanism involves:

• Initial assessments by relevant ministries.
• Review by the GFWC for compliance with sustainability criteria.

3. Management of Proceeds: Funds generated from SGrBs are deposited into the Consolidated Fund of India. A dedicated Green Register tracks these funds, ensuring transparency in allocation. Unallocated proceeds can be carried forward to subsequent fiscal years for eligible projects.

4. Reporting and Transparency: Annual Allocation Reports provide insights into project funding, progress, and environmental impacts. Metrics tracked include reductions in greenhouse gas emissions and renewable energy capacity added. Independent audits conducted by the Comptroller and Auditor General (CAG) enhance accountability.

Regulatory Oversight

The regulatory framework for Sovereign Green Bonds (SGrBs) in India is a collaborative effort involving the Ministry of Finance and the Reserve Bank of India (RBI). At the forefront, the Ministry of Finance acts as the principal authority, responsible for designing the Sovereign Green Bond Framework. This framework outlines the eligibility criteria for projects, selection guidelines, and processes for fund allocation. Additionally, it chairs the Green Finance Working Committee (GFWC), which ensures that funded projects align with environmental and social objectives, adhere to India’s green priorities, and meet both national and international standards.

The RBI complements this framework by managing the issuance and trading of SGrBs. It establishes clear procedural guidelines and maintains compliance through rigorous monitoring. The RBI also facilitates trading mechanisms, including those within the International Financial Services Centre (IFSC), to attract foreign investment and broaden the green bond market. Together, these institutions create a transparent and well-regulated environment, ensuring that proceeds from SGrBs are allocated exclusively to eligible green projects. Regular reporting, independent reviews, and audits further enhance accountability and build investor confidence. 

This comprehensive regulatory framework not only aims to mobilise resources for sustainable development but also strives to instil confidence among investors looking to support India’s green growth journey.

Who Can Invest and How?

1. Eligibility for Investment

• Institutional Investors: Businesses, particularly institutional investors like banks, insurance companies, and mutual funds, are eligible to invest in SGrBs. These entities typically have the financial capacity and regulatory framework to participate in such investments.
• Businesses Participation: Businesses can also invest in SGrBs as part of their investment strategy, especially if they are looking to enhance their sustainability profile or meet corporate social responsibility (CSR) objectives.
• Other Participants may include: Individuals, Non-Resident of India(NRI), Foreign Investors, and International Banking Units (IBUs).

2. Investment Mechanisms

• Primary Market: Businesses can participate in the primary market by bidding in auctions conducted by the Reserve Bank of India (RBI) for SGrBs. This allows them to purchase bonds directly from the government.
• Secondary Market: After acquisition, businesses can trade these bonds in the secondary market, providing liquidity and flexibility in managing their investment portfolios.

Note: All investors need to complete a Know Your Customer (KYC) check as per IFSC and RBI rules. This helps ensure everything stays compliant and keeps investment risks in check.

Risks associated with investing in SGrBs

Investing in Sovereign Green Bonds (SGrBs) presents various risks that potential investors should consider. Here are the key risks associated with these bonds:

1. Market Risks: Like all fixed-income securities, SGrBs are subject to market risks, particularly interest rate risk. If interest rates rise, the value of existing bonds may decline, potentially leading to capital losses for investors if they sell before maturity.
2.  Liquidity Risks: The market for green bonds, including SGrBs, may lack liquidity compared to more established bond markets. This can make it difficult for investors to buy or sell bonds quickly without affecting their price. Investors may need to hold these bonds until maturity to avoid potential losses.
3. Greenwashing Risks: There is a risk of “greenwashing,” where issuers may misrepresent the environmental benefits of their projects or fail to deliver on their sustainability promises. This can lead to investor disappointment if the funded projects do not achieve their stated environmental goals or if funds are used for non-green purposes.
4. Regulatory and Compliance Risks: The evolving regulatory environment for green finance means that changes in government policies could affect the viability of funded projects and the terms of Sovereign Green Bonds (SGrBs), impacting returns. Additionally, the lack of universally accepted definitions for “green” projects can create confusion among investors, leading to uncertainty.
5. Yield Limitations: SGrBs may offer lower yields compared to other fixed-income investments due to their green premium and government backing. Investors seeking higher returns may find these bonds less attractive relative to other investment opportunities.

While Sovereign Green Bonds offer an opportunity for investors to support environmentally sustainable projects, they come with inherent risks that must be carefully evaluated. Understanding these risks can help investors make informed decisions and align their investment strategies with their financial goals and sustainability values.

Why should one invest in SGrBs?

Now that we understand what Sovereign Green Bonds are, why should one consider investing in them? Despite the associated risks, these bonds offer several compelling benefits:

1. Environmental Impact: SGrBs exclusively fund projects that have positive environmental benefits, such as renewable energy, clean transportation, and sustainable water management. By investing in these bonds, investors contribute to initiatives that help combat climate change and promote sustainability.
2. Stable Returns: SGrBs are backed by the government, which typically provides a stable return on investment. This makes them relatively safer compared to corporate bonds, as the risk of default is lower due to sovereign guarantees.
3. Long-Term Investment Horizon: SGrBs are often issued with longer maturities, offering investors the potential for stable returns over time. This long-term perspective can be appealing for those looking to invest in sustainable projects while receiving regular income.
4. Portfolio Diversification: Investing in SGrBs allows investors to diversify their portfolios by adding green assets that align with their values and investment strategies focused on sustainability.
5. Hedging Against Climate Risks: By investing in climate-resilient projects, investors can hedge against the risks posed by climate change. As environmental concerns become more pressing, investments in green projects may offer better long-term stability.

By participating in this market, investors not only seek financial returns but also contribute to a more sustainable future, which is increasingly becoming a priority in global investment strategies.

Are There Any Tax Benefits for Green Bonds?

No, government bonds do not offer specific tax benefits; their taxation is similar to that of regular government securities.

• Interest Payments: The interest (coupons) from Government Securities (G-Secs) and State Development Loans (SDLs) is taxed at your applicable income tax slab rate.
• Short-Term Capital Gains (STCG): If you sell the bond within 12 months, the gains will be subject to STCG tax at your slab rate.
• Long-Term Capital Gains (LTCG): If you sell the bond after 12 months, a Long-Term Capital Gains tax of 10% applies, without the option for indexation. Note that there is no provision for indexation on government bonds.

Opportunities for Industries and Businesses

Industries can leverage SGrBs through:

• Collaboration on Public Sector Projects: Partnering with government initiatives in renewable energy or clean transportation.
• Adopting Sustainable Practices: Utilising incentives for transitioning towards energy-efficient operations.
• Enhancing Green Infrastructure: Engaging in projects like electric vehicle charging stations or green building certifications.

These collaborations not only aid in carbon footprint reduction but also enhance business competitiveness in an evolving green economy.

Conclusion:

Sovereign Green Bonds represent India’s commitment to a sustainable future. As India moves towards its 2030 and 2070 goals, SGrBs are going to be inextricably linked with the balance of nurturing the environment along with the economy. These bonds offer opportunities to participate in and benefit from India’s green transition—for both industry and investors.