(Bloomberg) -- The market for sustainability-linked bonds, which is worth more than $250 billion, looks set to witness a rare trigger event as its biggest issuer appears on track to miss a key target tied to the debt.

Enel SpA, which has close to $11 billion in SLBs that may be affected, is “highly unlikely” to meet an end of 2023 carbon-emissions goal after changes to European energy policy resulted in the delayed phaseout of coal plants, according to the Anthropocene Fixed Income Institute. The development would release an estimated $27 million of additional annual interest costs for the Italian energy company, AFII said.

An Enel spokesperson declined to comment. 

The event would mark the most significant penalty yet in a market whose first bond was issued by Enel in 2019. It also underlines how the energy crisis, sparked by Russia’s invasion of Ukraine, is hampering companies’ climate commitments. Other SLB issuers to have felt the fallout are Greece Public Power Corp., which has already missed a similar target. 

A trigger event for Enel would be “substantial for the company, and significant for investors,” said AFII’s head of research, Josephine Richardson, who previously spent almost two decades at JPMorgan Chase & Co. “Current bond pricing implies this event hasn’t been digested by the market.”

A €1 billion Enel SLB due 2027 that AFII says is on track to miss its emissions target outperformed a comparable bond late on Friday, an indication that investors are starting to price in a possible coupon step-up.

Sustainability-linked bonds typically see issuers pay a penalty if they miss pre-determined environmental, social or governance goals. But unlike green bonds, the use of proceeds isn’t dictated in the terms of the contract. Enel has also taken out similarly-structured loans, guarantees and derivatives.

Investors and analysts are bracing for more SLB trigger events. Last month, Swedish bank SEB AB warned that “around a third” of issuers “aren’t on track to meet their targets.” That’s against a backdrop of issuers often facing criticism for setting unambitious targets and minimal penalties. 

As a result, many sustainability investors have started cooling to the products. A recent study by analysts at Barclays Plc found that SLBs are now more likely to appear in non-ESG debt funds than in ESG portfolios.

For Enel, any potential penalties are small relative to its total business. A CreditSights analysis earlier this year found that missing the target would cost an extra €107 million ($113 million) until the affected bonds mature, or €155 million if Enel also ends up missing a 2024 target. Those amounts would “barely move the dial” for a company the size of Enel, the report said. 

Richardson said Enel has a “deep and frequently updated commitment to sustainability,” citing how the company has made its ESG targets increasingly ambitious in recent years. Missing the end of 2023 goal shouldn’t be viewed as a shift in the firm’s sustainability strategy, but “rather a bump in the road driven by exogenous factors,” she said. 

“Enel has provided a valuable hedge option for investors in terms of carbon emissions,” she said. “We believe Enel will benefit from beneficial funding conditions based on this level of transparency and consistency.”

Enel has so far met its financially-material targets. The firm has committed to reducing its Scope 1 emissions intensity — the narrowest definition of an entity’s carbon footprint — for power generation to 148 grams of carbon dioxide equivalent per kilowatt-hour in 2023. 

After the first half of 2023, the figure stood at 173 gCO2e/kWh, according to Enel’s latest disclosures. That’s roughly 25% below the same period last year after Enel sold off its Russian assets, according to AFII. In the absence of other big deals, the company looks a long way from reaching its target, it said.

“The Russia divestment is non-repeatable,” Richardson said. “We aren’t aware of any significant investment or acquisition” that might increase the share of Enel’s power generation from renewable energy, she said. 

The market’s ostensible failure to price in the trigger event that’s ahead creates “opportunities” for investors, according to AFII. The 10 Enel SLBs in question have generally been trading at attractive prices relative to its other debt, indicating that investors aren’t yet factoring in the prospect of a coupon step-up, it said.

--With assistance from Alberto Brambilla and Tasos Vossos.

(Updates with market reaction in sixth paragraph.)

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