Corporate bonds could offer 'untapped potential' for sustainable pension investments

Corporate bonds could offer “untapped potential” for improving the sustainability of investments, despite a "notable" absence of sustainable-labelled buy and maintain corporate bond strategies, analysis from LCP has found.

The firm explained that with defined benefit (DB) pension schemes gradually maturing and de-risking, holdings of bonds are set to increase, with many companies using the corporate bond market to raise cash as an alternative to issuing new equity at the same time.

This in turn has seen a “steady flow” of companies coming to market seeking to raise funds from investors such as pension schemes.

Considering this, the firm stressed that if pension schemes make it clear that they will favour bond issuances by companies with a good and improving sustainability record, this has the potential to drive improved performance by businesses.

Furthermore, it noted that corporate debt is often fixed term and has to be renewed, which in turn offers repeated opportunities to influence the businesses in question.

However, the firm also acknowledged that whilst there are existing active corporate bond strategies, there are few, if any, similar buy and maintain corporate bond strategies designed for long-term investors, highlighting the absence of such strategies as "notable".

It warned that this lack of sustainable-labelled buy and maintain corporate bond strategies could mean that investors are missing an opportunity to shape corporate behaviour to maximum effect and to focus on longer-term returns over a period of 10 or 20 years, or more.

In light of this, LCP suggested that investors consider instructing asset managers to reduce the overall carbon intensity of the companies in which they are investing, with analysis showing that in many cases it is possible to make "significant improvements" on this metric without comprising the yield of the portfolio.

Indeed, the firm highlighted analysis which showed that trustees do not need to pay a huge cost in reduced yield to do this, with as little as 0.05 per cent per annum needed to reduce carbon intensity by 30 per cent or more, whilst maintaining other key metrics such as credit quality and diversification.

However, it also emphasised that the analysis had revealed a “vast range” of starting points for carbon intensity of portfolios, stating that it is worth trustees investigating this.

For those seeking a more sophisticate approach meanwhile, It recommended looking to ensure that the overall asset mix is consistent with the climate goals set out in the Paris Agreement.

Commenting on the analysis, LCP senior consultant, Jacob Stevens, stated: “When it comes to sustainable investing, it tends to be equities which grab all the headlines.

“But there is a steady stream of companies coming to the corporate bond market to borrow money and this provides another opportunity to put pressure on companies to improve their performance when it comes to sustainability.

“Pension schemes by their nature are long-term investors and can hold corporate bonds for the long-term.

“Asset managers need to do more to use the power of this flow of investment funds to help schemes to deliver their sustainability objectives”.

The research also follows government plans to launch the UK's first sovereign green bond, expected to be issued in 2021, which will aim to help the UK meet its 2050 net zero target and other environmental objectives.

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