The top performing Candriam SRI Bond Emerging Markets Fund that has $1.5bn assets under management (AUM) has cut Russia, the Kingdom of Saudi Arabia and China from its list of allowed investments due to the country’s poor performance on environmental, social and governance (ESG) ratings.
Having a good ESG score has been growing in importance over the last few years as investors, particularly retail investors, are demanding that investments be not only profitable but also sustainable.
Russian companies were abruptly woken up by the need to improve their record on ESG after Norway’s state pension fund banned investments in several Russian blue-chips for poor ESG scores. Norilsk Nickel in particular saw a massive outflow of equity investors after it was placed on the proscribed list. Since then it has spent $2bn on reducing its sulphur dioxide emissions and intends to spend another $1.7bn, but it remains one of the biggest polluters in the world.
The New York-based Candriam has outperformed almost 90% of its peers in the past three years, reports Bloomberg, and has launched a sustainable investment policy that screens potential investments for their ESG compliance.
Norway has imposed ESG compliance on its public pension fund, but the country has not legislated. Indeed, ESG compliance remains voluntary in all markets and to date is ignored by the vast majority of fund managers. Having said that, fund managers largely believe that ESG legislation is on the way and many have been reviewing their portfolios for ESG compatibility and re-adjusting them before tough rules are imposed.
Emerging markets are particular vulnerable to ESG ratings, as few countries have bothered to set up environmental controls on their companies. Moreover, sovereign borrowing costs don’t typically take into account factors such as a commitment to cutting carbon emissions or reducing corruption, but they might in the future, say market experts.
“ESG investing is gaining pace in the emerging market debt space,” Magda Branet, deputy head of emerging market debt at Candriam, said in an emailed response to questions as cited by Bloomberg. “Clearly investors will increasingly look to be compensated for ESG- related risks. They will demand higher risk premiums from countries that score poorly in their criteria, or avoid some issuers altogether.”
Candriam’s model currently excludes 33 emerging markets, or about 40% of the JP Morgan EMBI Global Diversified Index, considered the benchmark for most emerging market sovereign bond funds, Branet said during a webinar earlier this month, as cited by Bloomberg. The model is reviewed regularly, allowing poorly rated countries the chance to move onto the investment list if they improve.
“Good practices and policies, especially on the environment, can help a country make it onto the investment list,” Branet said by email.