We show how the transition linker can be useful in asset allocation with the investment hypothesis that risky asset returns will be lower and/or more volatile in case of an unsuccessful transition. At the same time, the linker provides cost-of-capital incentives for the issuer (the government) to generate policies that increase the transition likelihood.
The linker can also be used to derive implied probabilities of reaching transition targets, providing investors, the general public and the issuers themselves important real-time information on transition progress.
The paper develops a pricing approach for transition linkers and discusses various structural implementations to accommodate traditional mainstream fixed income books.
Finally, it analyses a hypothetical transition linker format for the case of Japan, an already active sovereign issuer of inflation linked and transition bonds.
We're delighted to share that the transition linker proposal was awarded 'Best Paper' at the European Union's 8th Sustainable and Impact Investments International Conference in January 2025.
