Muni investors can prioritize the "S" in ESG with social bondsNovember 18, 2020By Lauren KashmanianSenior Portfolio Manager, ParametricNew York - In a year marked by turmoil and uncertainty, one hopeful theme that has emerged is the growing demand for a more equitable and inclusive society. Investors in Responsible Investing strategies have the ability to effect systemic change by directing capital toward projects with the underlying objective of making a positive impact on society.Investors in the municipal bond market in particular can invest in many projects that are crucial to local communities. The muni market offers the ability to invest in socially impactful projects using a vehicle called a social bond. Let's look at how sustainability-minded fixed income investors can get the most out of this innovative vehicle.What are social bonds?Green bonds, which are bond issues with an underlying environmental or sustainable purpose, have been issued in the municipal bond market since 2013, when Massachusetts issued the first green-labeled municipal bond.Social bonds, which are newer to the municipal bond market, are defined as "bonds with a use of proceeds for new and existing projects with positive social outcomes." Some of the issue types within the municipal market that are eligible for this label include bonds for:Basic infrastructure, such as clean drinking water, clean transportation and clean energy projectsEssential service access, such as health care and educationSocioeconomic advancement and empowermentAffordable housing projectsState and local governments can use social bonds to finance and refinance capital projects.1 Social bonds have also allowed nonprofit foundations to access the public bond market and continue their philanthropic work during a time when charitable donations from corporations and individuals might be less reliable.2How can muni investors find social bonds?Muni investors can find many bond issues with a meaningful social purpose. These may include public education bonds, nonprofit health care bonds, public transportation bonds, public housing authority bonds and clean water and sewer authority bonds. However, some of these issues don't come with an explicit social label, which makes them more difficult to identify. Furthermore, every responsible investor has unique environmental, social and governance (ESG) standards that may make some issues more acceptable in their portfolio than others.Having a municipal bond ESG research framework allows investors to uncover municipal issues whose proceeds provide meaningful impact to local communities and their constituents. For many investors, the most efficient option is to find a manager with a compatible framework — one that seeks to invest in projects that are optimal from a societal perspective as well as from an underlying credit rating and relative value perspective.Bottom line: Investor demand is increasingly coming to reflect investor values. The likely response to this demand by municipal issuers will be issuance of more green, sustainable, and social bonds. We believe that by using a rigorous approach to responsible investing, investors can achieve both strong financial and social returns in their portfolios without sacrificing one for the other. 1 For example, the Massachusetts School Building Authority brought a social bond to market in June, issuing over $1.4 billion in bonds under this designation. This issue qualifies as a social bond by seeking to establish "equitable quality education" and improve social outcomes for those in the Massachusetts public school system.2 The Ford Foundation issued the first social bond by a nonprofit foundation earlier this year, and the issue was designated as such by Sustainalytics, a second-party verifier, under the category of socioeconomic advancement and empowerment. The net proceeds will be used toward "building resilience in the nonprofit sector and stabilizing and strengthening key nonprofit organizations essential to reducing inequality, so that they are in a position to advance just, inclusive and equitable recovery efforts following the COVID-19 pandemic." Investors in this issue are providing access to capital to one of the largest nonprofit foundations in the United States, which issues grants to numerous organizations focused on the goals of reducing poverty, inequality and injustice.