Tabula survey reveals professional investors look for outperformance in ESG investment
There is a fundamental difference between ESG fixed income investing and ESG equity investing says Michael John Lytle (pictured), CEO of specialist fixed income ETF provider Tabula Investment Management.
His firm has just completed a survey of 120 European professional investors across seven countries to capture their views on the ESG fixed income market, and in particular the role ETFs can play in the strategy.
“ESG is fundamentally very different in fixed income from equity,” Lytle says. “This is true for all indexed products but when you bring in ESG it further enhances the differences. Bond investing is in a different part on a balance sheet for clients and people also think quite differently about what they want to achieve by putting on an ESG filter.
“In equities they think in terms of a combination of investment and governance and their ability to change the outcome of companies in terms of voting, whereas in bonds, they think in terms of lending money to people and it seems more nuanced.”
Tabula’s findings were that 82 per cent of professional investors want to see more innovation among fixed income ESG ETFs and regard the exclusion of the most harmful companies as the most salient product feature.
Most interesting for Lytle is that the firms surveyed reported that outperformance was more important than tracking, indicating that investors see ESG as an opportunity as well as a requirement.
“We found that anything to do with improving our world was clearly very important, not only as an asset manager, but also top of mind for the vast majority of institutional investors,” Lytle says.
He comments that the green bonds space is still very early in its development and, in his opinion, carries a whole series of challenges in itself.
“There are only a limited number of issuers and the guidelines around what has to happen within green bonds are very much developing. For some there is little constraint about how the money can be used but others have a very specific use of proceeds which is still developing. For example, so far this year, the Climate Bond Initiative recorded issuance of USD24 billion CBI-certified green bonds, USD78 billion bonds labelled ‘green’ and aligned with their definitions and USD99 billion labelled ‘green’ but not aligned with their definitions. ‘Green bonds’ is a bit of a marketing label that is not yet fully developed.”
The broader issue for Lytle is the definition of ESG: “Is it a filter for cleaning up the companies you invest in, or is it more dynamic than that? Are you trying to improve the performance for your clients or minimising tracking error?”
Tabula, which has signed up to the UN-supported Principles of Responsible Investing (PRI) rules, found that 100 per cent of professional investors surveyed in the UK, Italy and Switzerland were already using ESG ETFs, while 95 per cent were in Germany. In the UK, 95 per cent of respondents put the exclusion of the most harmful companies as the top priority, with 85 per cent of respondents looking for better corporate credit ESG ETF.
In Italy, again, some 95 per cent cited the exclusion of the most harmful companies as the top priority, but the ability to target specific issues, such as climate change, and diversity was also important.
In Germany, 100 per cent wanted better coverage of the different fixed income asset classes, and more than 50 per cent wanted greater transparency; some 95 per cent saw potential for outperformance as an important product feature.
In Switzerland, the potential for outperformance was the most valued product feature, followed by exclusion of the most harmful companies.
Lytle draws a parallel between the Covid-19 pandemic and the growth of interest in ESG investing. “People have come to the conclusion that we need to do something as they see Covid-19 and the planet tied together. The pause in economic and industrial activity has led many to think: ‘Maybe our resource consumption has become out of control’,” Lytle says. “People feel they have to take a more active stance and follow their beliefs. So, they have moved on from ‘ESG is nice to do’, to ‘it’s a necessity’ because there are fundamental risks to not taking ESG issues into consideration. Companies that are less friendly to climate considerations will suffer financially so there is value there but how do I identify and capture it.”