countries we will not invest in and the extra pieces of work needed to be done for those on the watch list. O’Neill: Sub-sovereign debt is important, too. If we look at what’s happening in some of the municipalities around the eastern sea- board of the US, the pricing of flood risk is an ESG-related risk which affects an entity’s ability to raise capital to fund its flood defence.
PI: The UK has set a net carbon neutrality target, so are we far off from seeing a UK sovereign green bond? Freedman: It does not make sense that they have not gone further down that road, given their stance on climate change. Nummela: The signalling effect of that is important. Gull: It would be welcome that these things are being taken more seriously. Would we buy it just because it’s a green bond? No, we don’t have a mandate to do that. We consider the fundamental risk. Does it work for the portfolio? Does it produce the right income to pay our pensions? It is outside of our portfolio manage- ment plan, but welcomed, nonetheless. Freedman: It is about signalling to commerce and industry that this is the direction we are moving in so you should be moving the same way. Pickering: Governments have a track record of saying that pension funds have money that they don’t need for the time being. We, the government, can make a lot better use of it than you, so could you lend it to us or do things that we command you to do. I am not comfortable with governments viewing my pension fund assets as a tool for them to use. Nummela: There was an initiative PRI formed some five years ago and many credit rating agencies have come behind it. Some of the agencies have 30 to 40 times more people than they had four years ago, so I guess they have a relatively good track record of under- standing governments. Freedman: One factor where we score a country better than others is on their long-term perspective. Governments change, but what you need is a construct where they can invest through different government cycles. Infrastructure is long term in nature; it takes time to get the equipment and cement together to allocate to projects.
A long-term horizon is required within an ESG focus. Govern- ments need to think past short-termist perspectives.
PI: Green bonds are well established, but we also have blue bonds, social bonds, transition bonds and SDG-linked bonds. Are these fads or are they here to stay? Freedman: We will continue to see more variants. If we are talking about transition, it cannot be through all the green projects that exist today. Mobilising mainstream capital is important, and you need to have
If climate change is important to you it needs to go into every part of your portfolio. You can- not say that the climate crisis is happening only in equities. Tomi Nummela, Mercer
a wider perspective. There will continue to be a variety of different types of ESG-linked bonds for the market to get its head around. Nummela: If these bonds are a fashion or a fad comes back to the initial investment beliefs and understanding sustainability. Sus- tainability is something that asset owners and the finance industry have to express and implement. Whether it’s green or blue it is part of that. Freedman: In mainstream fixed income, the more you go off-track, through issuing a blue bond, for example, liquidity becomes more important. We will not go anywhere if the issue size is too small or the risk/reward does not make sense. That will probably help keep markets and the types of bonds issued relatively mainstream. If you go too far off-track, you are going into project risk or where the three main credit agencies will not rate debt. That will be an important driver as well.
PI: Is the political will to halt environmental damage good news for those wanting to integrate ESG factors across their entire invest- ment portfolio? Gull: ESG is becoming part of the normal conversations we are having in fixed income.
That is welcome but getting data that everyone understands and is
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February 2020 portfolio institutional roundtable: ESG and fixed income
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