Our views

If it doesn’t consider ESG factors, it isn’t credit analysis


Martin Foden, Head of Credit Research

6 November 2018

We are critically aware of the importance of ESG factors for RLAM’s investment teams and clients alike.  The idea is not about ESG and credit analysis – two distinct processes that you have to combine – it is making sure that your credit analysis is targeted, thorough and able to add value to portfolios.
Our credit research team have always considered bond investing within the context of lending clients’ money, fixating on anything that decreases the chance of receiving either coupons or principal repayment, weighed against the potential reward for taking that risk.
We believe that risk doesn’t discriminate. Whatever the source of the risk, whether it is poor management decision-making or a missed social liability, the only thing that really matters is its impact. This can undermine the sustainability of your borrowers’ balance sheets, irrespective of its origin. 
Another important element of a truly effective fixed income ESG process is that it reflects the differences between asset types. You cannot simply take the same approach as you would for equities. A great example is the water sector. It’s a relatively small part of any equity universe, as issuers tend to be private companies, so probably doesn’t get a huge amount of attention from third  party and equity focused ESG providers. But water utility bonds are a material part of the credit universe and an important asset for long-term investors such as pension funds. These companies have a real environmental and social footprint and the financial consequences of this need to be understood.
In addition, it is vital that investors understand the different ways that risk can impact different asset classes. There is a specificity to corporate bond investing that must not be forgotten; it’s not just about who we lend to but how and where – for instance, is our debt secured and covenanted, or are we lending into distinct company subsidiaries? The answer to these questions can have a fundamental impact on how risk is transmitted through the balance sheet.
We remain supportive of the rationale for the green bonds sector, but there is a risk that the sector develops as a convenient but sub-optimal solution for investors. In addition, we need to be alive to the risk that the increased popularity of green bonds means that pricing may not be attractive, with investors effectively paying a premium for the convenience of a green bond label.
Our preference is to favour companies that give us proper visibility on the environmental efficacy of our investments without any compromise on bond protections and returns. And that, in short, must be the essence of any sustainable approach to fixed income investing.
For more detail on how RLAM incorporates ESG factors across asset classes view our latest Responsibility Matters e-zine.

We are critically aware of the importance of ESG factors for RLAM’s investment teams and clients alike.  The idea is not about ESG and credit analysis – two distinct processes that you have to combine – it is making sure that your credit analysis is targeted, thorough and able to add value to portfolios.

Our credit research team have always considered bond investing within the context of lending clients’ money, fixating on anything that decreases the chance of receiving either coupons or principal repayment, weighed against the potential reward for taking that risk.

We believe that risk doesn’t discriminate. Whatever the source of the risk, whether it is poor management decision-making or a missed social liability, the only thing that really matters is its impact. This can undermine the sustainability of your borrowers’ balance sheets, irrespective of its origin. 

Another important element of a truly effective fixed income ESG process is that it reflects the differences between asset types. You cannot simply take the same approach as you would for equities. A great example is the water sector. It’s a relatively small part of any equity universe, as issuers tend to be private companies, so probably doesn’t get a huge amount of attention from third  party and equity focused ESG providers. But water utility bonds are a material part of the credit universe and an important asset for long-term investors such as pension funds. These companies have a real environmental and social footprint and the financial consequences of this need to be understood.

In addition, it is vital that investors understand the different ways that risk can impact different asset classes. There is a specificity to corporate bond investing that must not be forgotten; it’s not just about who we lend to but how and where – for instance, is our debt secured and covenanted, or are we lending into distinct company subsidiaries? The answer to these questions can have a fundamental impact on how risk is transmitted through the balance sheet.

We remain supportive of the rationale for the green bonds sector, but there is a risk that the sector develops as a convenient but sub-optimal solution for investors. In addition, we need to be alive to the risk that the increased popularity of green bonds means that pricing may not be attractive, with investors effectively paying a premium for the convenience of a green bond label.

Our preference is to favour companies that give us proper visibility on the environmental efficacy of our investments without any compromise on bond protections and returns. And that, in short, must be the essence of any sustainable approach to fixed income investing.

For more detail on how RLAM incorporates ESG factors across asset classes view our latest Responsibility Matters e-zine.

Past performance is no guide to the future. The value of investments and the income from them is not guaranteed and may go down as well as up and investors may not get back the amount originally invested. The views expressed are the author’s own and do not constitute investment advice.