Nikko Asset Management launched a green bond fund last month, but the team say it’s not just in specialist products where they are looking for credible and effective issuers.
Here, Vincent Latour, sustainable investment specialist; Steve Williams, head portfolio manager for global core strategies; and Holger Mertens, manager director; at the firm discuss higher standards for impact measurement, minimum criteria for issuers and why they don’t run negative screens.
What do you look for when investing in green bonds? How do you ensure they are credible?
We are approaching investments holistically. On the one hand, we analyse if the issuer is in compliance with the ICMA Green Bond Principles. During this process we have a strong focus on the use of proceeds.
On the other hand, we are also interested in the management’s plans to reduce carbon emissions for the whole company as well as its reduction targets. In our research process we do not run a negative screen – even companies with a high carbon footprint but a credible plan to reduce it could be eligible investments.
How do you think higher standards for green bond impact measurement can be achieved?
There are always trade-offs to achieving a higher green standard as the increase in compliance costs may prevent adoption, but we are starting from such a low bar that we welcome initiatives such as the new European green bond standard, which leverages the work of the EU taxonomy.
The EU taxonomy is headed in the right direction with rigorous standards, mandating detailed reporting, third-party verification, the principle of do no significant harm and regulatory oversight.
We like the concept of issuer incentives such as is the case with sustainability-linked bonds, though they fall far short of even meeting the old green bond standard when looking at the issuer disclosures.
Work still needs to be done on climate accounting, for instance Scope 3 emissions account for as much as 95% of total emissions from oil and gas companies, though few firms have made any inroads in adopting the standard. Not saying we need something as extensive as the IASB, but climate metrics remain very qualitative.
One problem with impact measurement is the inconsistency on reporting. Reporting meaningful and comparable impact data is challenging due to the wide range of projects that can be eligible for finance. A degree of standardisation of reporting practices for allocation and impact reports (post-issuance report) would help achieve higher standards.
While bond frameworks are very consistent, thanks to ICMA reporting principles for example, the level of disclosure in post-issuance reports is highly variable among issuers. It ranges from a very high-level disclosure of categories of projects financed to clear project by project breakdowns of use of proceeds with meaningful impact metrics and SDG mappings.
What do you think of claims that a ‘two-tier’ impact bond market is beginning to appear when it comes to issuance quality?
Greenwashing will remain an issue in the sustainability investment space for some time and will only fade away when we have achieved an international standard, not just EU for sustainable investment criteria. We see this already in sustainable-linked debt with these issues trading at a discount to their sustainable bond peer group.
At a minimum we are looking for issuers that are aligned with ICMA standards, have been verified by third parties and are aligned with the principle of do no significant harm. This base criterion goes a long way in filtering out any potential for greenwashing in our investment portfolio and is enhanced by our own final due diligence on the issue and issuer.
Aside from your new global green bond fund, what strategies have you added green bonds to? What does this amount to in terms of total %/AUM and have these replaced traditional bonds?
We are not only buying green bonds because of their positive impact but also because we expect them to be profitable investments. Therefore, we invest in green bonds across our core and credit portfolios to let all our clients benefit from our sustainable investment ideas.
The global green bond fund says it will contribute to the SDGs – how is this done credibly?
We monitor and review SDG contributions for all the bonds in the portfolio. We review contribution to the SDGs as disclosed by the issuers in the bond frameworks and the post issuance allocation reports. We then cross-reference this information with external sources such as second-party opinions and third-party data.
The main challenge we face when it comes to SDG contribution is data availability and consistency, and none of the previously mentioned sources are ideal for SDGs contribution mapping.
The SDGs have the advantage of being a universally agreed framework that is consistent, speaks to everyone and is useful to explain the impact of the green bonds. To be credible and due to limitations in terms of data, it is critical that we don’t look at SDG in isolation but look at many other factors such as type of projects financed, impact metrics and general transparency around use of proceeds. Beyond tracking of use of proceeds, we monitor negative impacts through analysis of issuers’ sustainability strategy, including analysing principles adverse impacts and controversial involvements.