Bank of China has pushed the envelope on sustainability linked bonds by printing a unique $300m three year unsecured deal that is not a green bond but has a connection to an underlying pool of sustainability-linked loans.
Named as a sustainability “re-linked” note (SRLN), the deal has sparked a lot of reactions from investors and bankers, with some lauding the structure, but others calling it a “gimmick”.
The lender, one of the top four Chinese banks by assets, is known for introducing novel structures to the market, such as its biodiversity themed green bonds last month, as well as its Sofr and Sonia benchmark trades in August. The latest SRLN is the first ever from Asia, if not globally.
To explain the new yet complex structure to investors, the four global coordinators, lead managers and bookrunners — Bank of China, Citi, Crédit Agricole and HSBC — did pre-deal marketing over a few days.
The efforts paid off as a few ESG investors showed up as holders of the notes, according to three syndicate bankers on the deal. Full deal statistics were not released but banks took 96% of the offering and the remaining 4% was split between fund managers and insurance companies. Asia Pacific was allotted 79% of the bonds, with 21% going to EMEA.
The Reg S only offer was issued by BOC’s London branch and was priced at 99.753 to yield 1.084%. The 32bp over US Treasury spread was 43bp inside the initial guidance. The notes are expected to be rated A1 and A by Moody’s/Fitch, on par with the issuer.
At final guidance, books peaked at over $700m. As is the case with many Chinese deals, this one also had strong local support, which prompted many to call it a “clubbish” transaction.
“I won’t be surprised if the structure gets replicated with a long-dated tenor and some tweaks,” said the first syndicate banker.
ESG link
The notes are not green bonds, social bonds, sustainable bonds or sustainability-linked bonds and may not satisfy an investor’s requirements or future standards for assets with sustainability characteristics, states the bond prospectus. Yet, the offering caught the attention of ESG investors because of the sustainability links.
The coupon of the notes has a link to the performance of an underlying portfolio of SLLs totalling $546.26m from five industries — travel, fund management, trade, manufacturing and storage. The loans, which are mix of club and syndicated loans, are from the US, the UK, Hong Kong and Singapore branches of BOC.
The bond coupon has two parts — a base rate of 1% and a coupon adjustment rate, which is re-linked to the sustainability performance targets of the underlying SLLs as set out in BOC’s management statement.
The coupon adjustment happens only twice during the entire tenor of the bond, which is 60 days before the end of year one and year two. The coupon adjustment will be calculated based on the total SLL margin adjustment amount of the underlying portfolio, which is the sum of individual SLL margin adjustments for all underlying SLLs.
To limit the risk to bondholders, the coupon adjustment is capped at a 5bp step-up or step-down per year, starting from the second year and is non-cumulative, the bond terms show.
Keeping the balance
“The structure gives a clear pass-through of ESG performance of the SLLs to bond investors,” said the second banker on the deal. This feature is at the heart of the innovation of the structure.
Noteholders also take a credit risk on BOC, and not the underlying assets like in securitisation deals. For instance, if any of the underlying SLLs defaults, there will not be any cross-default or impact on the main bond, and BOC would have the flexibility to replace the loan.
This aspect of the structure took many by surprise. This is because bond investors will not be able to examine the ESG characteristics of the underlying SLLs to make their own assessments or do any other kind of screening.
BOC has also not disclosed full details of the SLLs, and has only Ernst & Young as an external verifier. However, as the coupon adjustment is capped, any risk of manipulation by BOC is limited.
“It is possible to simplify the structure by giving limited pass-through of the ESG risks,” said the same banker, adding that any new structure gets accepted only over a time.
Fair value discussions
The notes were compared with BOC’s recent Sydney branch issuance, which was trading at 26bp to 28bp over G-spread or 30bp to 35bp over Treasuries. The SRLN was priced at 32bp over, inside the fair value, although some debated this number and said the notes gave a 2bp new issue premium, while others put the final pricing at fair value.
The bonds were also compared with ICBC’s three year issuance from last week, which was priced at 30bp over Treasuries and had widened to 36bp to 37bp in the secondary market.
CreditSights analysts put fair value of the new BOC notes at 40bp over Treasuries, or 24bp over Z-spread, in a pre-pricing note.
The notes were traded around re-offer on Thursday morning but are barely liquid. By the evening, these had widened slightly.
Other than the four main leads, the deal also had the following banks as lead managers and bookrunners: ABC International, CLSA, China Everbright Bank, CMBC Capital, Commonwealth Bank of Australia, Emirates NBD Capital, NatWest Markets, SMBC Nikko, Shanghai Pudong Development Bank, SEB, Standard Chartered Bank, Westpac Banking Corp and UOB.
