How innovation and demand are driving sustainable fixed income

Originally Posted, 17 June 2024 – How innovation and demand are driving sustainable fixed income

Historically, fixed income has lagged behind equities in terms of the application of sustainable investment practice, but this is changing. Increasing demand from fixed income investors is being met with a growing range of sustainable finance and investment analysis and solutions spanning the breadth of this complex asset class.

The evidence of growing investor interest in the asset class is evidenced in FTSE Russell’s annual Sustainable Investment Asset Owner Survey. In the 2021 edition, 35% of respondents said that they had applied sustainability considerations in their fixed income portfolios. By 2023, fixed income had become more popular, with 45% of respondents incorporating sustainability factors into fixed income portfolios.

There are good reasons why investors have, in the past, focused their sustainable investment strategies on their equity portfolios. The fixed income asset class is more complex than public equities, which makes sustainable investment practices more difficult to implement.

For example, fixed income data can be more difficult to gather and compile. Many issuers only disclose information privately, with relatively few issuing annual reports and standardised disclosures, as required in listed equity. There is a wide range of fixed income instruments with discrete or complex characteristics and structures including bonds, loans, asset-backed securitisations, convertibles and project debt.

Similarly, there is a wider range of fixed income issuers than in the public equity space, including companies, financial institutions, sovereigns, supranational agencies and municipalities, not to mention special purpose vehicles and holding companies.

Our recent research, “Tracing carbon-intensive debt: identifying and calibrating climate risk in corporate fixed income” outlines these difficulties and highlights that debt securities issued by the carbon-intensive sector remains an important feature of global fixed income markets, accounting for 29.5% of total non-financial corporate debt.

And, unlike equity investors, fixed income investors do not typically hold ownership rights over the issuer, making engagement for fixed income investors more difficult than for equity investors – although not impossible.

Tackling the challenges

However, the size and importance of fixed income markets, and broader demand from investors for sustainable investment solutions, has driven innovation. There are some $129 trillion of global fixed income securities outstanding, and around $30 trillion of assets managed according to sustainable investment principles.

To help meet demand from these investors, LSEG’s Yield Book fixed income analytics has incorporated a wide range of environmental, social and governance (ESG) datapoints into the securities it covers. It now includes more than 550 measurements of ESG performance across the 1 million securities, worth almost $100 trillion in notional outstanding, that it analyses.

For sovereign issuers, Yield Book integrates LSEG’s Sovereign Sustainability Solutions’ market-leading climate and ESG data on sovereign issuers. This enables users to, among other things, easily measure the carbon footprint of sovereign portfolios, current temperature trajectories, and the gap to 2°degree scenarios, as well as assessing exposure to a range of other ESG risks.

We have helped investors apply ESG criteria to sovereign benchmarks with a view to improving their risk/return profiles. For example, we worked with PUBLICA, one of the largest pension funds in Switzerland, to design “democracy-screened” emerging market government bond indices. These indices weight constituents using LSEG’s Sustainable Sovereign Risk methodology and assessments of political freedom by Freedom House and the V-Dem institute.

Growing the sustainable bond market

The green, social, sustainability, sustainability-linked and transition bond market has been a big driver of innovation in the fixed income market, with LSEG analysis showing an all-time total of US$4.2 trillion worth of these bonds has been issued globally.^[1] Critically, the share of sustainable bonds in the overall bond market is also climbing, from 1% of global bond issuance in 2015 to 8% in full year 2023, according to LSEG.^[2]

This is an area where LSEG is making a direct impact through our Sustainable Bond Market (SBM), by increasing investors visibility of and access to debt securities from issuers who are meeting internationally recognised sustainability standards. More than £232 billion has been raised on the SBM since its launch in 2015, including £64 billion in 2023 alone. Thus far, more than 500 bonds have been admitted to the market, from more than 135 issuers.^[3]

Sustainability at the short end of the yield curve

To date, sustainable finance has centred on longer-dated financing without addressing the short-term needs of borrowers and lenders. The London Stock Exchange has partnered with TreasurySpring, which combines TreasurySpring’s infrastructure and technology with LSEG’s sustainability expertise to identify issuer’s sustainability credentials based upon a transparent criteria. The partnership aims to diversify short-term funding for highly-rated financial institutions and corporations by giving them access to a new pool of institutional capital committed to sustainable investment.

Bringing sustainability to the Sukuk market

LSEG has also played an important role in supporting green and sustainable issuance within the Sukuk market, where bonds are designed to be Sharia-compliant. The sustainable sukuk market has now seen over $47 billion in issuance since 2017, with $13.4 billion issued in 2023 – a 42% increase from the previous year 2022 ($9.4 billion).^[4]

LSEG has promoted the issuance of green Sukuk on our SBM: last year, Abu Dhabi Islamic Bank issued a $500 million green Sukuk and, in January, Qatar International Islamic Bank issued the first sustainability Sukuk from Qatar. We have also partnered with ICMA and the Islamic Development Bank to develop a practitioner’s guide to the issuance of green Sukuk.

Navigating Fixed Income Sustainable Investment

To help clients navigate the complex space of fixed income sustainability data, LSEG is developing a comprehensive collection of Fixed Income sustainability data in the LSEG Data Platform. Backed by in-depth data analytics, broad coverage, solid research and data from reliable partners, the fixed income sustainability data will help investors and asset managers to truly understand, monitor and communicate the impact of debt instruments they follow and invest in.

With complete coverage of all labelled sustainable bonds in the market, and over 50 different metrics (including bond categorisation, use of proceeds, targets for sustainability-linked bonds, alignment to EU Sustainable Development Goals etc.) to analyse the bonds, the data will help clients to understand specific fixed income instruments characteristics with granularity.  Our mapping service allows investors and asset managers to see the ESG profile of corporates that have issued the specific fixed income instruments, which is not often obvious from the outset.

Conclusion

Clearly, investor interest in applying sustainability considerations to fixed income portfolios is rising. Data providers, advisors and managers are responding with innovation and new product design. At LSEG, we are playing our part, helping our clients across the investment spectrum to embed sustainability considerations into their fixed income investments, from issuance to investment.

[1] LSEG Deals Intelligence

[2] LSEG Deals Intelligence 

[3] LSEG

[4] LSEG