There is evidence that ESG integration leads to outperformance of fixed income portfolios while also having benefits for issuers.
Euro-based investment grade corporate bonds, for example, saw a 37 bps outperformance annually over the past five years in a sample long/short portfolio that compared best-in-class with worst-in-class ESG-scored bonds.
Amundi, the asset manager that carried out the study using data between January 2010 and June 2019, said ESG integration in fixed income was so far less developed partly because ESG filters can lead to significant exclusions or underweighting within sovereign bond portfolios, which curtails liquidity.
However, the study adds to the argument that ESG bond screening should be more widely adopted, the firm said.
There have been periods of underperformance by ESG-led bond investing. For example, prior to 2014 ESG integration underperformed by 36 bps when bond returns in a portfolio were controlled for benchmark tracking error – though since 2014, ESG integration has outperformed by 3 bps on average per year if a tracking error of 25 bps was targeted.
ESG investing was a source of underperformance in US-denominated investment grade corporate bonds from 2010 to 2019 when both long/short, best-in-class versus worst-in-class strategies were considered. Underperformance also occurred in benchmark-controlled optimised portfolios.
However, the “large underperformance” during the 2010-2013 period in the asset class has decreased significantly in the more recent period”, the researchers said.
Amundi’s study, called ‘ESG Investing in Fixed Income: It’s Time to Cross the Rubicon’, also found that the annual cost of ESG investing has been 9 bps per year for a benchmarked strategy since 2014, compared to 24 bps from 2010 to 2013.
In terms of the cost of capital for issuers, the positive impact of ESG meant there was a theoretical cost of funding difference between a worst-in-class euro-based corporate and a best-in-class corporate of 31 bps during the 2014-2019 period.
In the case of US dollar investment grade, the difference was lower but remained significant at 15 bps.
“These results demonstrate the correlation between ESG investing and ESG financing and highlight that in order to tackle environmental and social issues, ESG is a winning factor for issuers,” the researchers said, adding “the time is ripe for accelerating the integration of ESG screening”.
Eric Brard, head of fixed income at Amundi, said: “The fixed income universe is an appropriate channel to seek impact on corporate firms. The time has come to reconsider ESG in bond picking processes and bond portfolio construction. ESG integration is now a matter of fiduciary duty for both asset managers and asset owners.”
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