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Investment views

JP Morgan ESG EMD indices – our initial thoughts

17 May 2018

By Peter Eerdmans, Co-Head of Emerging Market Fixed Income

Our initial thoughts on the new suite of JP Morgan ESG EMD indices

JP Morgan recently unveiled their suite of ESG EMD indices – with ESG versions of the GBI-EM (local EMD), EMBI Global Diversified (hard currency sovereign) and CEMBI Broad Diversified (hard currency corporate). As proponents of ESG integration in emerging market debt space, we welcome this move as an important step forward in providing investors with a benchmark for ESG integration. Below we briefly outline the construction of these indices and our thoughts on what this means for investors.

A brief summary of JP Morgan’s approach

  • The starting point for index construction are the traditional indices.
  • JP Morgan then adjust the weights based on a composite ESG score of each issuer.
  • This ESG score is derived from credible third party sources: Sustainalytics, RepRisk and the Climate Bond Initiative with monthly updates based on (albeit limited) real time data.
  • ESG scores are converted into five ESG bands which serve as a multiplier to the original index weight.
  • This leads to a set of indices that (relative to traditional JP EMD indices) overweight green bonds, up-weight or down-weight issuers based on ESG scores, and exclude certain issuers based on threshold scores and an ethical screen based on certain indicators.
  • Historically, these indices have provided comparable returns to their non-ESG counterparts, while displaying better credit quality and resilience during down-markets.

 

We view this as an important step forward

  • The ESG indices fill an important gap in the market and provide asset owners with a dedicated ESG benchmark to measure portfolio performance against.
  • Importantly, by using their flagship indices as a starting point, the indices do not sacrifice diversification, liquidity, yield, etc and have a similar historic performance signature.
  • The customisability of the indices is also welcome: sector exclusions can be reduced or expanded, the green bond overweight can be switched off, to meet client-specific requirements.
  • We thus think the indices are an important step forward for asset owners wanting to more explicitly incorporate ESG in their EMD portfolios.

 

Just one part of an array of approaches to ESG

  • However, the development should not be viewed as a panacea. For instance, the methodology focuses purely on the ‘level’ of ESG and doesn’t adjust for economic development. Hence Turkey’s weight in the EMBI is upgraded in the ESG version, while African countries are generally downweighted. This in theory will lead to a smaller allocation of capital to the poorest emerging/frontier markets and lowers their capacity to transition or deal with ESG shortcomings. Thus for some investors, a different approach may be required. Indeed the new JP Morgan Indices should be seen as just one of an array of approaches to sustainable investing. The Global Sustainable Investment Alliance (GSIA) outline seven categories of sustainable investment:
    • Exclusionary Screening
    • Positive Screening
    • Norms-based screening
    • ESG integration
    • Sustainability themed investing
    • Impact investing
    • Engagement

 

The JP Morgan ESG indices include a combination of ESG integration with exclusionary screening for the worst offenders.

  • For those asset owners with long-term, socially responsible investing goals, a more comprehensive solution may be preferred. Such a solution may combine a number of the GSIA’s categories, such as sustainability themed investing, engagement and screening.
  • Importantly such an approach would have a dual mandate; not just an investment objective but an explicit (and measurable) ESG objective. It would focus a lot more on future trends in ESG metrics across issuers (rather than backward looking data used to determine the index weights). Clearly it should also include engaging with the issuers to impact such trends positively.
  • Our comprehensive sovereign and corporate ESG scorecards provide an effective and flexible framework for a more active ESG approach. It helps inform our ESG scores in our standard investment process, but also provides a framework for a tailored solution for clients wishing to meet specific ESG goals, from a broad list of objectives (supporting the sustainable development goals) to thematic (action against climate change).

 

Important Information


All information provided is product related, and is not intended to address the circumstances of any particular individual or entity. We are not acting and do not purport to act in any way as an advisor or in a fiduciary capacity. No one should act upon such information without appropriate professional advice after a thorough examination of a particular situation. This is not a recommendation to buy, sell or hold any particular security. Collective investment scheme funds are generally medium to long term investments and the manager, Investec Fund Managers SA (RF) (Pty) Ltd, gives no guarantee with respect to the capital or the return of the fund. Past performance is not necessarily a guide to future performance. The value of participatory interests (units) may go down as well as up. Funds are traded at ruling prices and can engage in borrowing, up to 10% of fund net asset value to bridge insufficient liquidity, and scrip lending. A schedule of charges, fees and advisor fees is available on request from the manager which is registered under the Collective Investment Schemes Control Act. Additional advisor fees may be paid and if so, are subject to the relevant FAIS disclosure requirements. Performance shown is that of the fund and individual investor performance may differ as a result of initial fees, actual investment date, date of any subsequent reinvestment and any dividend withholding tax. There are different fee classes of units on the fund and the information presented is for the most expensive class. Fluctuations or movements in exchange rates may cause the value of underlying international investments to go up or down. Where the fund invests in the units of foreign collective investment schemes, these may levy additional charges which are included in the relevant Total Expense Ratio (TER). A higher TER does not necessarily imply a poor return, nor does a low TER imply a good return. The ratio does not include transaction costs. The current TER cannot be regarded as an indication of the future TERs. Additional information on the funds may be obtained, free of charge, at www.investecassetmanagement.com. The Manager, PO Box 1655, Cape Town, 8000, Tel: 0860 500 100. The scheme trustee is FirstRand Bank Limited, PO Box 7713, Johannesburg, 2000, Tel: (011) 282 1808. Investec Asset Management (Pty) Ltd (“Investec”) is an authorised financial services provider and a member of the Association for Savings and Investment SA (ASISA). This document is the copyright of Investec and its contents may not be re-used without Investec’s prior permission. Issued by Investec Asset Management, May 2018.

The content of this page is intended for investment professionals only and should not be relied upon by anyone else

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