Navigating ESG in Fixed Income

Anna Martin:

A commonly discussed disadvantage of being a fixed income investor when it comes to ESG, at least relative to equity investors, is that you don’t have the ability to influence how a company acts. How do you navigate this?

Pilar Gomez-Bravo:

So, you won’t be surprised to hear that since I’m in fixed income, I think we have a lot more of a say in some of these considerations on ESG with companies than my colleagues in equities do. The reason for that is because if you think about it, companies rely much more on my financing than they do on share capital. So, it’s very rare that companies are going to start issuing equity to finance their investments. But they do come to us quite often and regularly so we can hold these companies to account and we can sort of decide, for example, to lend them short if we’re not convinced that they’re going to deliver. And that leads to having them come to market more frequently and paying higher costs. So, we actually think that we have quite a lot of leverage in those discussions with companies.

Obviously we’re privileged to have this very strong equity platform as well, and therefore we’re actually usually engaging with really the strategic visionaries of the firms with regards to determining what those ESG outcomes are. And even though we’re not participating necessarily in the proxy as fixed income investors, we really have the same seat at the table that our equity colleagues have. And at the same time for those companies that are private, then they even rely more on our sort of lending to be able to facilitate their growth and we have very productive discussions with private companies as well around their ESG commitments.

Anna Martin:

So ESG is equally an important factor when it comes to sovereign bonds. How do you think about ESG in that context and is the scope to engage with governments to influence their behavior?

Pilar Gomez-Bravo:

Yeah, so that’s like the next frontier almost. I think credit ESG is a pretty well-trodden path to some extent in terms of companies. Sovereignty is really kind of where it gets very interesting. And then I would sort of differentiate between developed market sovereigns and emerging market sovereigns. And we’ve been having quite a lot of discussions with institutional clients around Europe, for example, about sovereign ESG.

Traditionally, if you look at the correlations of returns to the ESG factors in sovereigns, especially in emerging markets, they need to be more correlated with the S and the G than they do with the E. And I think that will change in the future, but you need more data. Part of the problem with emerging market sovereigns is that they don’t all provide you with very good e-data.

So, a lot of the focus on our side is obviously looking at sort of those S factors and the G factors and the S factors, the social factors, tend to really focus on education and health. So, for us, those are two key elements that we would consider when we engage with sovereigns. And we’ve had actually pretty successful engagements and we continue to do that with countries like Morocco for example, or quasis like Pemex, where we actually go and talk specifically about some of these ESG factors and our analysts sort of then follow up with them on some of these issues.

But it’s not only on the emerging market side. We’ve had also significant ESG engagement meetings with developed market countries. We’ve had one recently with Australia, we’ve had one with New Zealand, we’ve had one with Queensland. We’ve had an engagement meeting with Iceland actually, which is interesting, and the UK. And of course, the challenge when you think about ESG sovereign is that here you really don’t have a lever to pull with regards to a proxy vote. However, I think a lot of it is about information and being able to assess the risk of a certain sovereign exposure that you have based on those engagement discussions with the treasury departments or policy makers.

And therefore, whilst you might believe that there’s no immediate follow up, the more investors like us continue to have those discussions with these sovereigns, the more they understand the importance of the transparency and the data that we need to continue to invest in these markets.

Anna Martin:

There has been a proliferation of green social sustainability and other similar type of bonds in recent years. Do you make use of these in your portfolio and how do you make sure you don’t suffer from greenwashing?

Pilar Gomez-Bravo:

So yeah, I mean that’s another very topical point, greenwashing obviously. Again, here I have to stress the value of the global research platform. I mean it’s imperative that we have our analysts that integrate all these ESG factors into the recommendations. Also think about the structure of the bonds that we’re buying. So, they will assess for example, social bonds or sustainability linked bonds that offer you an extra coupon if they don’t commit to a certain target.

It’s really imperative that you understand whether or not those targets are ambitious or not and whether again, there’s greenwashing in an investment that they had to do anyway and they’re now sort of claiming it’s sort of a social or a green investment. So, for us, the great part of about investing in green bonds, which we do own and some sustainability linked bonds, we in fact own bonds in the muni side that are also sustainable as well as in the structure side in some social housing for example.

So, there’s lots of components that we buy, but it’s very important that we understand what actual the structure is. And in the green bond, what projects is a financing. For example, there are some green bonds that actually have fungible language and therefore basically that debt that they just raised can actually fund something else until they find a green project to buy. Whereas other companies actually have a green bond framework that only allows those funds to actually go into green projects from day one. That’s why you have to look under the cover, under the hood, and that’s why you need those analysts to give you the strength of the recommendation on green bonds as well, or sustainable linked bonds because you obviously want to understand the greenwashing risk, but also in general you might make sure that you’re buying them for the right reasons and that those funds are being used for those reasons in the first place.

Anna Martin:

Absolutely. Well, thank you very much for your insights Pilar. That’s been absolutely fascinating. Thank you for tuning in and hope to see you soon.

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