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17 Green bonds are a single instrument in a wider universe of financial tools that are being developed to help mobilize finance to confront larger societal issues. They are one important part of a wider push to make finance more sustainable by considering costs that have tradi-tionally been ignored (for more information, see the sustainable finance frameworks in the appendix of this report). Understanding the way green bonds fit into this landscape can help issuers feel more confident in their offerings and identify additional financing options they can pursue.When Should an Agency Not Issue a Green Bond?While green bonds are a compelling option for transit agencies in many cases, interview participants identified certain instances in which green bond issuance would not be advisable:1. When the decision to issue a green bond would be made after the issuance process has already begun, as this can require considerable additional work, including duplication of effort.2. When the project has unclear environmental impacts. These projects can be poorly received by the market, which can damage the issuer’s reputation and make future green bond issu-ances more difficult.3. When a bond issuance is small enough that the costs associated with reporting or receiving a second opinion significantly increase the net cost of funding.Use of Proceeds MarketGreen bonds were created to meet the demands of investors aligned with the growing aware-ness of human impacts on the environment. Since then, the model has been adapted to direct capital toward a wide array of social and environmental issues. The resulting market is known as the “use of proceeds market” or the “ESG bond market.” This market has grown to include bond issuances for initiatives focused on addressing social equity, public health, community resilience, and marine conservation—among others. An example of the flexibility of this model is CBI. CBI focuses on climate-related initiatives (rather than the larger universe of green initia-tives, some of which may not have specific positive impacts on climate), which is reflected in that it certifies “climate bonds” rather than green bonds. Some other examples of the use of proceeds model include:1. Social bonds (in which proceeds are used to generate positive impacts on social issues).2. Sustainability bonds (in which proceeds are used to generate positive impacts on both social and environmental issues).C H A P T E R 5Alternatives to Green Bonds

18 Analysis of Green Bond Financing in the Public Transportation Industry3. SDG bonds (in which proceeds are used to generate impacts that are aligned with the United Nations’ SDG).4. Blue bonds (in which proceeds are used to support ocean conservation).While these examples represent some of the growing number of use of proceeds instruments, the use of proceeds model can theoretically be adapted to support any type of impact, with the only limitation being demand. Of the above models, ICMA has published guidance for social bonds and sustainability bonds (in addition to the GBP). When a transit project reduces GHG emissions and improves access to public transportation, it may inherently qualify as a sustain-ability bond—an example of this can be found in the Massachusetts Bay Transportation Author-ity (MBTA) case study in Chapter 7 of this report. Additionally, social bonds may provide an opportunity for transit agencies to fund projects that improve access but would not be consid-ered green by the market (e.g., developing a network of traditional fuel buses to a low-income neighborhood without existing access to public transportation).Taxable Green BondsTraditionally, transit initiatives have been funded by tax-exempt municipal bonds. This type of issuance confers higher after-tax returns for investors with US tax liabilities. The lower nomi-nal interest rates in tax-exempt bonds, however, discourage participation by people or entities not subject to US taxes. Interview participants noted that when interest rates—or “spread” dif-ferentials between taxable and tax-exempt bonds—are narrow, it may behoove an issuer to issue a taxable bond. A taxable issuance can attract a significantly wider pool of investors (and thus an opportunity to negotiate better terms). Interview participants noted that this could be particularly effective with transit bonds; the asset class is very familiar for large investors outside of the US, who may be interested in diversifying geographically. While interviewees noted that it was theoretically possible, none could point to an instance where a transit agency had elected to issue a taxable green bond.Results-Based FinancingIn addition to traditional use of proceeds financial instruments, there is a nascent market of sustainability-linked finance in which repayments are based on the impact achieved by the investment. An example of this type of instrument is an environmental impact bond (EIB). In an EIB, an issuer agrees to certain targets with the investors (including interest rate, time frame, and outcome metrics) and develops the project. After an agreed upon amount of time, a third party evaluates the initiative’s effectiveness according to the metrics designated at the outset of the project. If the project outperformed the metrics, the municipality gives an outcome payment (funded by savings generated by the project) to the investors. If the project underperforms, investors pay the municipality a risk-sharing payment. The first example of an EIB was the 2016 D.C. Water Environmental Impact Bond, which funded green infrastructure to reduce stress on the city’s shared sewer system through nature-based solutions (Quantified Ventures 2018).There are two important factors to consider before attempting to issue a “linked” or “impact” bond:1. The market for results-based financing is considerably smaller than the use of proceeds market. This is significant because an issuer will have a much smaller pool of potential investors and correspondingly less leverage in negotiating terms.2. Sustainability-linked financial instruments are fundamentally different from traditional bonds. They carry significantly higher risk for investors, as poor nonfinancial performance (which is out of their control) would lead to weaker financial returns.

Alternatives to Green Bonds 19 Green LoansGreen loans are very similar to green bonds, with the key difference being how funding is raised. Bonds raise funds from the investor market, and loans are funded by banks. This dif-ference will preclude most transit projects from being financed through loans, as it is unlikely to find a single bank willing to fund a whole transit project on its own due to the large scale of most transit projects. Green loans could, however, be useful for smaller projects at large transit agencies (such as feasibility studies) or for small projects developed by small transit agencies.Transition BondsNot all industries are well-suited for green bond issuance. Some industries (e.g., mining and heavy industry) are not—and never will be—environmentally friendly; these are known as “brown” industries. Because brown industries have an inherent negative environmental impact, they do not qualify for green bond issuance. However, in order to curb climate change, those industries will also need to find ways to reduce environmental damage. Transition bonds are a means of offering businesses in those industries an incentive to shift their operations toward more environmentally sustainable practices, wherever possible. This is a very new asset class—and it is not intended for inherently environmentally sustainable initiatives—but it bears moni-toring for its potential to finance initiatives that can drive net GHG emissions reductions even if they would not have been received positively by the market in the form of green bonds (BNP Paribas 2019).