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Why big investors are excited about a 0.62% coupon bond

In November, BlackRock, Deutsche Bank, State Street, Ford Motor, Microsoft and other big investors jumped at the opportunity to buy a three-year bond yielding just 0.625 percent. The $1 billion International Finance Corporation issuance led by Bank of America, Citigroup and Crédit Agricole was even heavily oversubscribed.

Why would investors be so jazzed about such a low rate of return, less than even a U.S. Treasury bill? The answer is simple: It was green.

"They are obviously very smart investors and they are after the money, but just by being associated with the asset class there's a lot of 'conscious' value," Evelyn Hartwick, head of socially responsible bond programs at IFC Treasury, said of big asset managers putting their money in so-called green bonds.

Hartwick's comments were made at the Environmental Finance Innovation Summit hosted by Goldman Sachs in New York City Thursday.

(Read more: New buyers show growing taste for "Green bonds")

Green bonds are like other fixed income products except they invest in environmentally friendly businesses and projects, such as wind and solar power or technologies that reduce greenhouse gas emissions.

The bonds have taken off over the last year, with more than $10 billion issued in 2013 alone. There are now about $15 billion of them total, according to nonprofit Climate Bonds Initiative.

Most green bonds are from international development institutions like the IFC and World Bank and are rated AAA with returns that are close to government treasuries.

But the scope—and potential return—is expanding.

Massachusetts recently became the first U.S. state to issue a green bond. And the first set of corporate issued vehicles were launched last year by French electric utility company EDF Group, Swedish real estate company Vasakronan and Bank of America. The companies raised money like a normal debt offering but with the promise that the money would go towards environmentally friendly projects.

Green bonds issued in 2013

Issuer
Date
Amount ($M)
S&P Rating
Coupon (%)
EDF 13-Nov $1,900 A+ 2.25
EIB 13-Jul $1,500 AAA 1.375
IFC 13-Nov $1,000 AAA 0.625
IFC 13-Feb $1,000 AAA 0.5
FMO 13-Nov $674 AA+ 1.25
World Bank (IBRD) 13-Aug $550 AAA 0.375
Bank of America 13-Nov $500 A- 1.35
Kommunalbanken 13-Nov $500 AAA 0.75
AfDB 13-Oct $500 AAA 0.75
ExIm Bank Korea 13-Feb $500 A+ 1.75
NRW Bank 13-Nov $340 AA- 0.75
EBRD 13-Sep $250 AAA 1.625
IFC 13-Oct $201 - 8.14
EIB 13-Jul $176 AAA 1.642
Vasakronan 13-Nov $152 - 1.501
Massachusetts 13-Jun $100 -
EBRD 13-Aug $67 - 8.01
EIB 13-Nov $49 AAA 6.75
Vasakronan 13-Nov $45 - 1.774
City of Gothenburg 13-Oct $39 AA+ 2.915
City of Gothenburg 13-Oct $39 AA+ 1.704
IFC 13-Oct $20 - 3.51
World Bank (IBRD) 13-Jun $16 AAA 6.75
World Bank (IBRD) 13-Jan $9 AAA 0.5
Source: Climate Bonds Initiative

While still a tiny fraction of the bond market—outstanding U.S.bonds alone total about $40 billion today—there's more to come. HSBC estimates that $25 billion in green bonds will be issued in 2014. Part ofthe reason is increased transparency and consistency thanks to a new set of green bond principles announced in January and backed by Bank of America, Citi, JPMorgan Chase, Goldman Sachs, Morgan Stanley and others.

Kyung-Ah Park, head of the environmental markets group at Goldman Sachs, said Thursday that the amount of issuance and increasing size of the bond offerings was creating buzz around finding increased private capital for environmental finance.

"There's a lot of excitement around green bonds," Park said.

(Read more: Clean energy: Better than coal in your stocking?)

State Street, an early investor in the environmental fixed income sector, manages more than $100 million in green bonds for clients as part of $350 billion in fixed income overall. Despite the relatively small size, State Street is attempting to get its clients to replace some of their U.S.Treasury investments with green bonds, given that many have a similar credit ratings and yield.

Brian Kinney, head of fixed income beta solutions at State Street's Global Advisors unit, noted Thursday that green bonds were expanding into corporate credit and therefore starting to offer investors higher rates of return at greater risk.

"As we look at the glide path of issuance and we look at where investors are really looking to squeeze some more incremental yield and move down the credit curve, there will be that development in the not too distant future," Kinney said of corporate green bonds.

(Read more: Goldman Sachs, hedge fund billionaire back $27M social impactbond)

The ability to make green bonds large and lucrative enough for a broader set of money managers—like hedge and mutual funds—is still more vision than reality. The main issue is size: Making bonds large enough by finding enough environmentally friendly projects to invest in.

George Richardson, head of capital markets at the World Bank, said Thursday that investors can find small bond offerings, especially if they're willing to accept lower rates of return because it's an environmentally conscious investment. But investors looking to write larger checks and earn market-rate yields have few options.

"The minute you grow your transactions beyond, say, $50 to $100 million, you need the bigger investors. They have benchmarks to follow. They have the same duties as a regular portfolio investor to follow. So they can't give up without sacrificing their returns and looking potentially poor versus their competition," said Richardson.

"It's not there yet," he added. "I don't know if it ever will be because I can't see the 'super green' sector growing to billion dollar sizes."

Regardless, conservationists are excited about green bonds' potential even without the big money.

"It is good that the groups like the World Bank and IFC shine a light on their green investing," said Pat Coady, a senior adviser at investment bank Coady Diemar Partners and former U.S. executive director to the World Bank.

Coady, also chairman of the Northern Virginia Conservation Trust, said impact reporting would help increase the appeal and effectiveness of green bonds. Until then it's ultimate impact is uncertain.

"Whether it encourages more capital or changed policy by the borrowers is not clear," Coady said.

—By CNBC's Lawrence Delevingne. Follow him on Twitter @ldelevingne.

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