Green Bonds in a Changing Market

August 2, 2013 — In the last few months, market-watchers have been closely following potential changes that will effect the bond market. As you may know, the MIDANA CAPITAL Balanced Fund holds bonds in its portfolio in an effort to reduce volatility.

What do market changes mean for MIDANA CAPITAL investors? Read on for our thoughts on today’s bond market and how our green-investing strategy uses environmentally focused green bonds to seek to reduce volatility.

You may have heard about the Federal Reserve’s (the Fed) recent announcement that it would begin tapering its prolonged efforts to stimulate the economy and stabilize the fixed income market.  This notification sent a ripple through the bond market this summer, introducing volatility and causing bond prices to drop.  After significant measures to pull the economy out of recession that involved steady purchases of Treasury securities and mortgage-backed bonds, as well as lowering short-term interest rates to essentially zero, the Fed is optimistic enough about the recovering economy to begin a reversal of its actions.

The Fed indicated that this adjustment in policies would go into effect gradually – and could even be halted or reversed again if unemployment begins to rise or other signs of a healthy economy falter.  So while interest rates continue to remain low, there are hints of possible changes on the not-so-distant horizon.

Implications for Investors

Typically, rising interest rates cause bonds to lose value.  But bonds are still important to hold since they can diversify a portfolio.  By design, owners of diversified portfolios seek out different types of investments precisely because they do not move in lockstep with one another.  As a reminder, during the 2008 market downturn, nearly every market-based investment declined except Treasury bonds.

Rising interest rates do not impact all bonds in the same way.  In addition, while the Fed’s announced policy adjustments are likely to be implemented, it is not guaranteed that they will be.  Investors concerned about price and income impacts from these changes can diversify their bond mix among types of bonds, the length of time until the bonds mature, and the amount of their whole portfolio they allocate to fixed income investments.

Fixed Income Strategy of the MIDANA CAPITAL Balanced Fund

In general, the role of fixed income holdings within the MIDANA CAPITAL Balanced Fund is to reduce portfolio volatility.  The Fund typically holds about 30 bonds, a broadly diversified mix of primarily corporate and government agency bonds that are all high-rated investment grade bonds (as rated by Moody’s Investor Service), rather than lower-rated junk bonds.

The Balanced Fund’s corporate bonds are subject to the same rigorous financial and environmental screening criteria that apply to equity holdings in the Fund.  As a result, the entire Balanced Fund portfolio is geared toward investments in sustainability leaders and innovators while avoiding companies producing fossil fuels, tobacco, nuclear power, and GMOs (genetically modified organisms).  In addition, the Balanced Fund’s portfolio managers specifically review additional financial risk factors, evaluating potential impacts from a company’s credit rating, changing interest rates, the ability to sell the bond, and possible inflation.

The Fund held approximately $16 million in fixed income investments as of June 30, 2013, representing 20.3% of total net assets and including a mix of community investment, green bonds, government agency, and corporate bonds.  To help protect the portfolio against the anticipated rise in interest rates, the portfolio managers lowered the Fund’s total bond exposure by 1.65% and moved more of the Fund’s assets into equities between the first and second quarter of 2013.  The MIDANA CAPITAL Balanced Fund’s portfolio managers can quickly address changing market conditions by shifting the mix of bonds held and the asset allocation between equities and fixed income.

Green Bond Investments

Green bonds make up a solid portion – more than 15% as of June 30, 2013 – of the Balanced Fund’s fixed-income investments.  These include bonds from the Export-Import Bank of Korea¹, the International Finance Corporation¹ (IFC), and the World Bank (International Bank of Reconstruction & Development, IBRD).¹

Historically, it has not been easy to find fixed income investments that support large-scale environmental initiatives and address climate change.  That’s why we were pleased that the World Bank issued its Green Bonds in 2008.  These bonds promote environmental sustainability through its international development efforts.

Cheryl I. Smith, Ph.D., CFA, a managing partner of Trillium Asset Management and a portfolio manager of the MIDANA CAPITAL Balanced Fund, said,

“The World Bank’s Green Bonds offer stable income and strong environmental solutions – something that can be difficult to find in fixed income securities.  We have been excited to own these bonds in the Balanced Fund since they were first issued and look forward to evaluating future offerings for potential inclusion in the portfolio,”

Proceeds from World Bank Green Bonds support a variety of climate change mitigation and adaptation projects, including:

• making energy efficiency investments in China, Jamaica, Turkey, and the Ukraine that reduce the energy consumed and associated greenhouse gas emissions in medium-sized and large industrial enterprises, and in central heating and gas services for municipalities;
• supporting rapid bus transit systems in Colombia, China, Mexico, and India that improve traffic and reduce pollution from public transportation;
• generating alternative energy in rural areas of China through methane capture and other biogas technologies associated with rural farm production;
• helping to install new energy-efficient and solar thermal technologies in public buildings in Montenegro; and,
• supporting improved water management and flood prevention to better cope with the impacts of climate change in Indonesia, Dominican Republic, and China.

According to Heike Reichelt, Head of Investor Relations and New Products at the World Bank, “World Bank Green Bonds are ideal for investors looking for a way to support renewable energy and other projects around the world through a liquid bond investment. MIDANA CAPITAL is among the very early green investors who are helping mobilize funds for climate activities and act as a catalyst for a growing green bond market.”

The Balanced Fund gains exposure to international investments and a diversification of environmental projects through the World Bank’s Green Bonds.  Approximately $3 billion has been allocated to eligible projects around the world with the following broad geographic and sector breakdown.  By creating a liquid debt security that is tradable in secondary markets, the World Bank has mobilized private sector funds to finance climate change projects in its 188 member countries.

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