Canada’s first green bonds have proven popular, but a University of Guelph finance expert wonders whether that popularity will last if inflation continues to rise.
Dr. Nikola Gradojevic is a professor in the Department of Economics and Finance in the Gordon S. Lang School of Business and Economics. His research interests include empirical asset pricing, high-frequency and international finance, risk management, machine learning and cryptocurrencies.
Green bonds are a growing trend, with more than 30 countries including the U.S., Germany, France and China selling them, said Gradojevic. Their annual market size has grown from US$41.8 billion in 2015 to US$517.4 billion in 2021.
“The issuance of green bonds may raise the awareness of consumers towards socially responsible practices, it offers an investment opportunity with tax benefits, helps with job creation, and it leads to a cleaner environment,” said Gradojevic.
But if inflation continues, there may be less incentive to invest in green bonds, given that they offer a relatively small interest rate payment of 2.25 per cent, he said.
“High inflation will depreciate the fixed interest rate payments yet to be received from bonds and will erode the purchasing power of investors,” he explained.
“So, if Canada were to slip into a recession, the yield from green bonds must be much greater than 2.25 per cent in order to make them attractive to investors.”
By offering these bonds, the government is diversifying and stabilizing a volatile economy at a time when investors are resorting to “a multitude of ways” to expand their portfolios, he said.
“These bonds highlight the ‘green nature’ of an issuer’s business model, which may positively resonate among environmentally conscious investors and investors who are looking for ways to diversify their portfolios,” explained Gradojevic. “This also creates an environmentally positive image or a marketing story for the issuer.
“The only downside is that some market participants might perceive the issuance of green bonds as a distraction from the government’s primary duty to curb inflation, because the green bond market is too small to significantly affect inflation. Let me remind you that the overall bond market was US$119 trillion in 2021.”
Gradojevic is available for interviews.
Dr. Nikola Gradojevic