INVESTING in equities with an ESG or Impact bent is proving fruitful for many investors, but fixed income strategies with similar attributes are also becoming popular in Australia.
In fact, green, social and sustainability bonds make up the vast majority of “impact investing” — where investors aim to generate positive, measurable social and environmental impact along with a strong financial return.
Impact investment in Australia increased by 46% to $29 billion in 2020 — mostly due to growth in green, social and sustainability bonds which made up 88 per cent of the total, the Responsible Investing Association Australasia reported in its most recent benchmark report.
“The 2020 results indicate that responsible investments perform consistently in the short term, even though they are historically expected to yield long-term benefits,” the report says.
“As responsible investing becomes the norm, and an ever-increasing proportion of Total Managed Funds become managed to responsible investing approaches, RIAA anticipates the performance of responsible investment funds and mainstream funds … will ultimately converge.”
Pendal Sustainable Australian Fixed Interest Fund
A defensive bond fund with strong performance and positive environmental and social outcomes.
Pendal senior credit analyst Terry Yuan says: “Traditionally the view has been that ESG or impact or sustainability investments don’t improve returns.
“But there is an outperformance benefit in investing in a dedicated Impact fixed interest fund.
“You can do something good and you don’t have to sacrifice returns for it. You can say ‘I’m helping take cars off the road or aiding disadvantaged families and helping people get back on track with their lives’.
“A lot more companies are issuing green bonds or impact bonds and they tend to be sought-after once they are issued [and traded in the secondary market]. There is normally a new-issue rally after they issue.
“Dedicated impact funds tend to get better allocations, and so take advantage of the bump,” he says. “And that advantage compounds over time.”
The popularity of fixed income ESG or impact investments creates an arbitrage opportunity for big investors already in the market. And that’s likely to continue for a number of years.
“Ten or more years is a fair assumption for how long this arbitrage may last for,” Yuan says.
If you pick the right fund, you can also benefit from a portfolio manager’s skills in the fixed income market. “It’s about knowing when to de-risk, and then put risk back on.”
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Regnan Credit Impact Trust
Yuan uses the period of mid-December 2019 to mid-April 2020 to demonstrate his point.
The Covid outbreak began and there was a rapid rise in new cases. While the Pendal team became bearish on the outlook for credit markets, the fixed income market itself was complacent, spreads were tight and risk wasn’t well priced, Yuan says.
“There were also quantitative signals to sell credit. Technical analysis was giving sell signals. So, our fund began selling down in the last week of February and the first week of March,” Yuan says.
“Then by mid-April last year, our outlook of credit markets was improving given new Covid cases were flat-lining globally and governments and central banks were co-ordinating fiscal and monetary stimulus.
“Spreads were much wider and at attractive levels. Quantitative signals showed neutral-to-slightly-bullish credit. Technical analysis was giving buy signals. And so, we began buying back credit in mid April.”
Akin to equity markets, fixed income investing in ESG and impact funds can provide better outcomes than vanilla bond alternatives, Yuan says.
“Investors in fixed incomed ESG or impact investing need to be looking for funds that have this arbitrage advantage…and portfolio management skills.”
Pendal’s Income and Fixed Interest boutique is one of the most experienced and well-regarded fixed income teams in Australia. In 2020 the team won the Australian Fixed Interest category in the Zenith awards.
Regnan Credit Impact Trust is a defensive investment strategy that puts capital to work for positive change
Pendal Sustainable Australian Fixed Interest Fund is a defensive Australian bond fund that delivers market-leading performance with positive environmental and social outcomes.
This information has been prepared by Pendal Fund Services Limited (PFSL) ABN 13 161 249 332, AFSL No 431426 and is current as at November 2, 2021.
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