PRI paper explores link between ESG factors and corporate credit risk

LONDON, 12 December 2013 

The Principles for Responsible Investment (PRI) Initiative today published a new discussion paper examining the link between environmental, social and governance (ESG) factors and corporate credit risk to help signatories better understand how ESG analysis can be used as a potential risk-reducing, return-enhancing tool for corporate fixed income investment.

The analysis and experience of the PRI’s Corporate Fixed Income Working Group, made up of nearly 50 representatives from some of the world’s largest pension funds and investment managers, is reflected in the paper. It draws on academic and industry research to highlight how different ESG factors correlate with bond yields, credit ratings and, ultimately, investment performance.

Among the paper’s key findings:

  • Academic and industry research now makes a compelling case for considering ESG factors in corporate fixed income investment strategies;
  • Strategies that incorporate ESG analysis are well suited to credit managers, given the long-term and relatively illiquid nature of bonds and bondholders’ focus on downside or default risk;
  • Investment managers are responding with increased ESG analysis in this asset class, driven by asset owner demand.

“Creditworthiness is a function of a company’s profitability, productivity, competitive position and  cost of capital. This papers shows why ESG issues can be a driver of all of these factors,” said Fiona Reynolds, Managing Director of the PRI. “The case studies presented by the PRI’s working group show that ESG analysis could – and in most cases did – provide early warning of material financial losses. But in most cases, investors were either not aware of or underestimated the potential risk to their investment.”

“Due to the major challenges of our time, like for example climate and environmental protection, ESG criteria will have an increased impact on the risk profile of companies” ,” said Solveig Pape-Hamich, Vice President at Kfw and Chair of the PRI’s Corporate Fixed Income Working Group. “Reputational risk in particular will affect companies more in the future if they do not pay attention to ESG.”

The PRI has seen increased interest in responsible investment from bondholders since 2011. In meetings and interviews with the working group, signatories have discussed how they use ESG analysis to inform allocation, credit analysis, bond fund weighting, and overall portfolio risk analysis. This paper concentrates on why investors should consider ESG factors in their fixed income investment process; the PRI will release a guidance document for signatories in 2014 which will showcase how this can be done.

Note to editors:

The following signatories are members of the PRI’s Corporate Fixed Income Working Group:  AEGON Asset Management, AllianceBernstein, Allianz Global Investors, Allianz SE, AMP Capital Investors, Amundi Asset Management, ATP – The Danish Labour Market Supplementary Pension, BlueBay Asset Management, Breckinridge Capital Advisors, Caisse de dépôt et placement du Québec, Carbon Tracker, Danske Bank, Deutsche Asset and Wealth Management, EIRIS, ERSTE-SPARINVEST, F&C Asset Management, Generation Investment Management, Hermes Fund Managers Limited, imug, KfW Bankengruppe, Legal & General IM, Mercer, MN, MSCI, National Employment Savings Trust, NEI Investments, Newton Investment Management, oekom research, Pension Protection Fund, PGGM Investments, PIMC, Robeco, Sustainalytics, UNEP Finance Initiative, Union Investment, Unipension Fondsmaeglerselskab.

A copy of the paper can be downloaded from the PRI website.

For more information, contact:

Matthew McAdam
Head of Communications, PRI
+44 (0) 207 749 5141