Some investors may baulk at buying the new bond from Bank Gospodarstwa Krajowego this week, as it will raise money for Poland’s Armed Forces Support Fund. But as ESG considerations at funds grow in importance, frequency and complexity, there should perhaps be some appreciation that the use of proceeds in this case is so clearly highlighted.
BGK, Poland’s development bank, has issued for several different funds in the past, such as the National Road Fund and the Covid-19 Response Fund, but none of these deals have been as controversial as the $1bn Armed Forces Support Fund bond it aims to print this week.
The bank has drawn criticism for helping the Polish government avoid spending via the state budget, thereby helping it to avoid scrutiny. As an issuer, BGK is not explicitly guaranteed by the Polish state, but its bonds are and its deals typically go smoothly enough.
This week’s bond will not be as straightforward as its others. Several EM funds will not be able to buy it because of the use of proceeds — some funds have mandates that prohibit them from funding weaponry. Others may have overarching compliance concerns, which mean they will need a longer time to get sign-off to buy it, or they might be denied permission altogether.
There will also be a nuance to when and how funds can hold this paper. Some of the funds that will be unable to buy it in the primary market may be able to in the secondary market. As we saw when sanctions were laid on some Russian issuers in 2014, some funds distinguish between buying bonds directly from an issuer and buying them from another investor in the secondary market, as by this stage, the issuer already has the funding and receives nothing from the trade.
Despite this, the deal is expected to be priced just fine. Although the military funding deal is being formally marketed this week, bankers working on it said this was not the first time the topic of BGK funding the military had been raised with dollar investors. The possibility was mentioned in May when the bank first printed in the currency. The fact BGK is in the market this week implies that there was enough positive feedback from the buy-side.
Bankers on the deal argued that the protection of a country’s citizens should not face widespread objections from fund compliance teams. Poland has taken in swathes of Ukrainian refugees and has its own border with Russia to worry about, giving it a need for defence spending to ward off a belligerent neighbour. But it will be difficult for BGK to show much granularity over how the proceeds are spent, naturally. That may give investors pause.
While some investors may not tolerate the idea of their investment being spent on weaponry, it should be remembered that almost all countries raise money for defence and military spending, funded by regular sovereign bonds. Rarely will these be on an ESG no-go list.
Perhaps investors that worry about funding the machinery of war should applaud BGK — rarely has it been easier to avoid doing so in any specific country, while still being able to fund all the things it is easier to bracket under ESG, such as schools, hospitals and public transport.
But the investors who are likely to be most thankful are those who will pick up a few basis points of premium in the primary market for swallowing these concerns. It is likely that they will, sooner or later, find that this bond trades in line with BGK’s other bonds, when it is accepted that, when push comes to shove, the only risk here is Poland.