The fixed-income market could see increasing ESG activism as discussions are underway to create collaborative engagement groups to help investors implement their net-zero pledges and meet Glasgow Financial Alliance for Net Zero commitments.
While equity investors are refining sophisticated ESG engagement policies backed by groups like Climate Action 100+, the fixed-income market currently lacks a similar group to drive progress and help asset managers maximise their impact and aid reporting.
This could be about to change, however, as more investors see the merit of joining forces to drive more rapid development and gather the information that they require to align their portfolios to net-zero emissions.
“We would agree with the need for collective engagement action and groups for fixed income to be set up, where investors can come together and pool resources and know-how to engage companies as one voice,” said Rebeca Coriat, head of stewardship at Lombard Odier Investment Managers.
“As members of CA100+, we have seen first-hand the impact of a collaborative approach,” she said.
Engagement has historically been tilted towards equities which have stewardship programmes in place but is underdeveloped in the fixed-income market, where engagement primarily takes place on a one-to-one basis during deal roadshows.
"Fixed income is a different type of engagement. It's not classical shareholder stewardship, but it's a powerful engagement as investors have granular questions and it builds the understanding. For me this is one of the key benefits of any kind of ESG-labelled bond," said Agnes Gourc, head of sustainable capital markets at BNP Paribas.
Although this can be somewhat effective in changing issuer behaviour, it is not part of a formal investment and stewardship process and is mainly down to the individual efforts of investors, some of whom are better informed and resourced than others.
Plugging the gap
Discussions are afoot to create new engagement groups. Some investors are considering banding together, while others are talking to ESG ratings firms including Sustainalytics to create new tools to speed progress and improve reporting.
“On the sustainable fixed-income side, I’ve heard there are discussions amongst some investors to have a formal engagement group but I haven’t seen or heard anything concrete,” said Erika Wranegard, portfolio manager at LOIM.
New investor groups could lead to more scrutiny and debate in the sustainable bond markets, which have previously taken issuers’ willingness to issue ESG debt as a sufficient sign that companies are ready to engage.
"Fixed income is more archaic. It generally has slow-moving mandates and is rules-driven which makes it harder for the activist or the engaged investors to make their voice heard, because there's such a wall of money that doesn't engage," said Ulf Erlandsson, chief executive at non-profit the Anthropocene Fixed Income Institute.
This lack of collective fixed-income engagement is partly due to the effects of quantitative easing as issuers have not needed to engage with systemic programmatic buyers and investors have been unwilling to speak up for fear of receiving low allocations.
No fixed-income industry body currently addresses engagement directly. The International Capital Market Association is focused on the principles that underpin sustainable bonds standards and frameworks and the European Leveraged Finance Association represents investors and focuses on high-yield.
The AFII is the closest thing that the ESG bond market has to an engagement body and has had success lobbying against the inclusion of fossil fuel-intensive companies in ESG and conventional portfolios, such as Australian coal terminal North Queensland Export Terminal, formerly known as Adani Abbot Point.
"As an organisation, we're suggesting how you should be looking at your fixed-income portfolios and avoid funding the worst stuff for your fixed-income book,” Erlandsson said. “We've been vocal in a couple of cases where we've seen people making all these big statements saying 'we are so green and fantastic' and then you look through their fixed-income books and they’re a cesspool of fossil fuel exposure, and that's just inconsistent.”
The need to tackle ESG engagement in fixed income is becoming increasingly pressing as investors have to demonstrate engagement to meet their commitments to GFANZ to align portfolios to net-zero. The matter is equally pressing for banks with net-zero goals.
“The fact that there is no collaborative fixed-income engagement is one of the gaps that needs to be filled for asset managers and banks to comply with net zero,” an investor said.
GFANZ brings net-zero finance initiatives together into one coalition and membership is based on science-based commitments to net zero. Members of groups including Net Zero Asset Managers initiative and the Paris-Aligned Investment Initiative, have to show how they are meeting stringent qualitative criteria.
These specify that asset managers need to engage with the top 70% of financed emissions in portfolios to be aligned with net zero by 2026 and 90% of financed emissions to be aligned with net zero by 2030.
Managers have to report how they are meeting these criteria for all instruments across their portfolios in equities and fixed income, which can contain up to 1,500 names, and is stretching managers’ capacity and ability to comply with GFANZ requirements and align their porfolios to net zero.
In equities, bodies like Institutional Shareholder Services are starting collaborative engagements, but there is almost nothing in debt and single direct engagement is not moving the needle in a critical decade for climate change.
“There needs to be more outspoken voices,” Erlandsson said. “When we speak to asset managers and owners, there is a very clear need for practical methods to implement climate and ESG policies, rather than high-level strategy. It is not uncommon that too little has been done in practice so far.”