As part of of our Hedge Funds and Asset Managers series of interviews, we speak with My-Linh Ngo, Head of ESG Investment at BlueBay Asset Management, about the firm’s approach to ESG investing.
What are the main markets that Bluebay invests in and what are your main funds?
BlueBay Asset Management is a fixed income specialist, structured to deliver outcomes tailored for investors seeking to enhance the returns of their portfolios. Located in Europe and managing over US$60 billion in AUM, BlueBay invests globally for clients across corporate and sovereign debt, rates and FX, fully integrating environmental, social and governance (ESG) into the investment process.
What is Bluebay currently doing with regards to sustainable investing? Do you have any explicit ESG funds or have you incorporated any sustainability criteria into your existing funds?
We believe that, alongside a values driver, there is also a value case for incorporating ESG factors into investment decisions. As such these factors have been a feature of our credit research for many years. But we recognised the need to be more systematic in considering such risks, and this process started in 2013.
BlueBay seeks to offer investors complete solutions when it comes to innovative active fixed income strategies, and this is no different when it comes to how we incorporate ESG. So, whilst ESG is incorporated into all our funds – we would make a distinction between those which are ‘ESG aware’ and those which are ‘ESG orientated’. In this way we can offer investor choice, enabling them to balance and prioritise their ESG preferences.
What form does this take? Are there any specific ESG strategies that you pursue such as negative screening, impact, exclusion etc?
Essentially BlueBay investment strategies benefit for ESG integration and engagement as standard practice. We are identifying and evaluating ESG risks to understand the extent to which they are investment material and using this insight to inform on our decisions. If the fund invests in corporates, we also ensure those involved in producing controversial weapons are excluded automatically. This minimum approach is applicable to our ‘conventional’ funds and termed ‘ESG aware,’ but not necessarily ESG constrained where ESG factors are not considered to be credit material.
Alongside these funds, in 2017 we expanded to offer sister funds which we would class as ‘ESG orientated’. For these, there is an explicit ESG objective, and ESG considerations shape the portfolio composition, irrespective of whether these are investment material or not. For such funds, the negative exclusions are more extensive, and the integration and engagement can lead to us proactively excluding issuers beyond any of the binding restrictions in place. These funds are ‘responsibility’ focused in terms of the ESG emphasis, and we are in the process of launching more of these by the end of the year. Within the last year we have also initiated research into adding to the range of ESG orientated funds, which are more impact focussed. Both of these developments were initiated pre the COVID-19 crisis.
What ESG ratings do you use? Do you use third party ratings, proprietary ratings or a combination of both?
As part of our credit research we make use of a range of external information – financial and ESG – but as a business we focus on proprietary research. For ESG, we subscribe to third party ESG information providers for insights and ESG ratings and scores on issuers, sectors and issues and these are an input into our own thinking and views. We believe, while external information can be useful, they do have their limitations depending on how and why they are being used, and for what asset class. Some of the issues relate to issuer coverage gaps and their methodology emphasis being different to our own in terms of which ESG factors are most material, and most credit relevant.
Our fundamental views, which drove us to launch our own proprietary ESG evaluation framework in 2018, is that we needed a better framework to articulate the multi-dimensional characteristics of the debt asset class, which more than equities, means that there is not always a direct correlation between good ESG quality and good credit quality. This is key given our focus on ESG integration. In fixed income there may be a spectrum of ESG investment risk profile associated with a single issuer depending on their bond. While we have transitioned to placing greater emphasis on our internal ESG assessments, we continue to make use of third party ESG information so it’s now a combination of both.
To what extent are your investors demanding that you pursue more sustainability investments or include sustainability criteria in your funds?
We have certainly been seeing a growing trend in terms of investor interest and demand for ESG investing, and this has accelerated within the 12 to 18 months. The COVID-19 pandemic appears to have turbo-charged demand – the data on inflows telling the story – no doubt fueled by the compelling performance of ESG funds.
But there has not necessarily been an overwhelming clear consistency in what investors want in terms of ESG, and views vary by investor type (whether retail or institutional), regions (Europe vs the US) and even by issues. In many ways this should not be surprising – it’s important to recognise there are a spectrum of ESG investment strategies and one approach is not necessarily more valid than the other. They reflect the personal priorities, values and principles of the investor. Our role is to ensure we continue to offer funds that meet different investor requirements.
However, what is clear is that as standard, investors want managers to be ESG aware. Policy makers and regulators also agree. So, in terms of the answer to the question: has ESG become mainstream? I would say ‘yes’ – it has moved from being a ‘nice to have’ to be a ‘need to have’.
What impact has the inclusion of sustainability criteria had on the returns of Bluebay funds?
BlueBay has had a global high yield bond fund since 2010 (‘ESG aware’), and a sister global high yield ESG bond fund since 2017 (‘ESG orientated’). Both portfolios are managed by the same desk under a common investment process, with the same analysts and portfolio managers contributing ideas. Unsurprisingly there is a high overlap in holdings between the two, with differences being mainly a function of the impact of the ESG orientation. For instance, the exclusionary screens (which have led to a structural underweight in extractives and emerging market issuers) and proactive restrictions applied by Bluebay, as well as a more concentrated portfolio with a longer average holding period.
As to performance, both funds have had periods of outperformance, where the benchmark has recorded a negative return, a testament to our focus on capital preservation that we can deliver excess returns through the cycle. Where we have data for both funds, broadly speaking the ESG version of the strategy has performed better than the conventional one (the exceptions being where market rallies have favoured energy related names which the ESG strategy is structurally constrained in).
What ESG benchmarks and sustainability standards does Bluebay track?
For the current range of ESG orientated funds (the existing and those in the pipeline) we do not have a bespoke ESG benchmark, but rather reference a conventional benchmark. In some ways, if we believe in the value position of ESG, issuers in such funds should outperform in the long-term in terms of superior risk-adjusted returns, then we should be confident enough to be benchmarked against conventional ones. Although there may be some instances, where if the ESG strategy is fundamentally different, that a conventional benchmark does not make sense. This could be the case for sustainability thematic or impact ones.
Do you think hedge funds will have to start reporting the ESG/sustainability credentials of their funds before long?
I think its somewhat unfair that the question implies hedge funds are not doing ESG or reporting on this. It’s true they can do more, but some have been doing this, and for some time and doing it well. BlueBay manages long only, total and absolute return strategies, and we have not made any distinction about whether we only apply ESG for non-hedge funds.
I’d say there are challenges for incorporating ESG across different asset classes and strategy specialisms, and hedge funds are not unique in this respect. But clearly equities and long only strategies are where this started and other asset classes are playing catch up.
What will be the next major development in ESG investing?
I’d say the role of regulation in institutionalising ESG within the investment industry. To date, its been broadly a voluntary uptake, dictated by supply and demand dynamics.
What we have seen in recent years, is an increasing recognition by governments, policy makers and regulators that ESG developments like climate change can represent systematic financial risk if left unaddressed. There is a need for speed and action on a scale not seen to date if we are to make the low carbon transition and do this in a fair and equitable way within the window open to avoid ‘dangerous’ temperate increases. As markets do not appear to be rising to the challenge, we are seeing policy and regulatory intervention, with the European market being the frontrunners on this, but no doubt other regions will follow. Whilst there is clearly a need to scale up action to decouple economic development from environmental degradation and social unrest, there is a danger this is done in a way which is not effective or efficient. It’s a tricky balance to strike – but its critical we get the right type of regulation (for instance, focused on transparency rather than being prescriptive in defining what is ESG for instance when we know there is a spectrum of approaches) and quantity. We support smart regulation which harnesses the power of capital markets as a force for good.
Has the virus situation had a positive or negative impact on the growth of ESG investing?
In 2019 when we were looking ahead to 2020, all the signs were that it was set to be THE year for ESG action. Our prediction was that the primary focus would remain on the ‘E’ of ESG – the environment – and climate change specifically. Unsurprisingly, we have seen significant disruption to pre-agreed ESG plans and priorities as governments, companies, individuals and society as a whole work to respond and adapt to the new operating environment.
While there is a danger that ESG momentum will slow as the crisis-management mentality continues to take precedent, we would argue that COVID-19 provides the perfect illustration of why we need to tackle climate change – its disruptive impacts will be world-changing if not addressed – and how quickly governments and society can act in the face of a true public emergency.
So rather than COVID-19 bringing ESG progress to a stop, we believe it should be viewed as a temporary delay, after which efforts should resume and accelerate to rebuild a world that is based on greener, more resilient and inclusive practices.
In terms of how we see the balance of emphasis going forward with regards to E, S and G, we predict focus will expand to become more balanced in terms of bringing social issues into sharper focus, illustrating the interconnectedness of people, the planet and prosperity.
My-Linh Ngo, Head of ESG Investment, BlueBay Asset Management