Australian investors are looking to environmental, social and governance (ESG) screenings of sovereign bonds as a better means of understanding an asset class distorted by quantitative easing.

Investors such as HOSTPLUS and Vicsuper have already gone on record to state their desire to either cut back on the asset class or to seek alternative indices, while Axa Investment Managers is seeing a growing interest in its proposal to use ESG as a better gauge of risk.

Matt Christensen, global head of responsible investment at Axa Investment Managers, says ESG factors are not fully covered by rating agencies, in particular the ways of measuring if a society is fair to all citizens.

“Access to healthcare and to education is a proxy for a trend about the inequality of society and whether there is any inequality, if you are moving to elites and have nots,” he says.

These social measures have led Axa IM to recommend a lower weighting to countries such as the USA, but a higher weighting to societies with higher measures of equality such as Germany.

Countries with large yields but great reputational risk to investors, such as Venezuela, are being excluded by Axa IM.

“We told investors to dump Venezuela because it is not worth doing no matter what the yield is,” says Christensen.

Countries with high ratings for financial security, such as Singapore and the United Kingdom, are downgraded using the Axa IM system due to poor environmental scores.

The system used to identify risk looks at the CO2 emissions per capita and per unit of GDP (environmental), comparative measures of healthcare, education and standards of living (social),  the accountability of leaders, the rule of law, the quality of regulation, political stability, government effectiveness and the control of corruption (governance).

Christensen said the appliance of these screens to determining weightings of sovereign bonds were largely about minimising risk rather than gaining alpha.

Feedback from Mercer Investment Consultants suggest that very few fixed income fund managers dedicate much resource to calculating the ESG risk of their investments. It measures the ESG implementation of 5200 investment strategies, awarding rankings of 1-4 to each, with 1 being high and 4 low.

It has found that only 3 per cent of fixed income managers score a ranking of 1 or 2. Hendrie Koster, head of strategic research in the Pacific region Mercer, said: “Sovereign bonds do not lend themselves well to ESG integration and hence if that is an important factor for an investor it will be a higher hurdle to get them into the portfolio.”


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