During the last week of the year, in some locations, children still go around asking for money and old clothes to build up an ‘old man’ to be burnt at the stake as the clock strikes 12, to ring in the new year. They very often tell you that your contribution is going to a good cause, that is, burning away the old year and everything terrible that came with it (which -to their credit – is very relevant in these pandemic years). They also say you can enjoy your money’s worth, by coming by at 12 in the night to enjoy the festivities.
This “deal” that the children of the neighbourhood might make with donors is comparable to how social bonds work, in the sense that social bonds too, use the proceeds for a good cause and yes, upon maturity you get back your money.
This might also be compared to young, ambitious Indians who borrow money from parents and wealthy aunts and uncles to study abroad. Studying abroad is the “good cause” that encourages seniors to loosen their purse strings and yes, most of these young aspirants do have every intention to make good on their debts.
What are social bonds?
Social bonds, also known as social impact bonds and abbreviated as SIB, are the type of bond where the bond issuer is gathering funds for a project that had some socially beneficial implications.
Like any other bond, social bonds imply that the bond issuer owes a debt to the bondholder, who becomes the bond issuer’s creditor by virtue of having purchased a bond. In other words, the bondholder gives a loan to the bond issuer, who uses the capital for some project aimed at the greater social good.
Social bonds are most often issued by government bodies, although technically anyone could undertake some sort of social project and issue a bond, with the promise of face value repayment upon maturity (though most non-government social benefit projects and ventures receive donations quite easily, and as a result, they may not see the need.
Why do investors choose social bonds?
For obvious reasons: The investors who opt for social bonds are driven by the same sentiment that drives people who choose sustainable stocks or green cryptocurrency or who might be very particular about not investing in companies even remotely involved in arms and ammunition.
People exercise the power of their capital through social bonds, meaning that they use their capital in order to enable social benefits. Many investors realise that money is power and for every entity seeking their capital – no matter how small they might be in comparison to other investors – every rupee makes up the corpus that will be required by the company or government entity issuing a bond.
So instead of choosing just any bond that displays a low default risk and attractive interest, these investors will look for a bond that displays a low default risk and attractive interest where the company issuing the bond plans to use the proceeds for some sort of social benefit.
Corporations and large companies might also choose to invest in social bonds as part of CSR initiatives.
How to choose/evaluate social bonds
It is important to note that social bonds are not donations. Like any other bonds, social bonds are investments and are therefore serious business. The buyer of the bond must perform due diligence and analyse
- The project and its viability; the potential for default or delay in interest payments and face value repayment
- The timeline to maturity and whether the interest payouts are such that the earnings one expects are able to outpace inflation.
- His or her overall investment portfolio and how this new investment fits into it (never lose focus in portfolio diversification and risk management).
- The investment horizon of the social bond and how he or she plans to tackle any liquidity or cash crunch issues that might arise in the interim.
In India, so far, there is only one social bond, launched earlier this year. As a result, investors do not have a problem of choice, but simply need to decide if this one option works for them or not.
Default risk in social impact bonds
Like stock market risk, default risk exists in any bond because the project can hit roadblocks or fall completely or fail partially. Investors need to be aware that :
- Interest payments and face value payout can be only partial
- Bond contracts can be reworked to buy the issuer more time
- If the project fails completely, there is a chance of no repayment whatsoever
Pros and cons of investing in social bonds
On the upside:
- The investor gets the opportunity to contribute to social benefits
- The government finally has a means for funding and bridging the deficit
- The investor might even get some tax benefit in some social bonds
On the downside:
- The government project could tank and investors could lose their money
- Proceeds could be lost to corruption
India finally has its very own social impact bond
The start of 2021 also saw the start of India-based social impact bonds. The first social impact bond that came about under an MoU was between Pimpri Chinchwad Municipal Corporation (PCMC) and United Nations Development Programme (UNDP). The bond proceeds will be used to enhance healthcare facilities for residents in Pune’s Pimpri Chinchwad neighbourhood.
Social bonds are like any other investment. Investors should think them over carefully and understand the potential of any project before investing. Unless of course, they’re treating it as a donation, which just might pay some dividends, in which case they can simply “donate” without thinking twice.