Case study by BlueBay Asset Management

In the spirit of showcasing leadership and raising standards of responsible investment among all our signatories, we are pleased to publish case studies of all the winning and shortlisted entries for the PRI Awards 2020.

Give a brief overview of your innovative approach to ESG incorporation, its coverage within your firm and why you decided to undertake this approach. 

In August 2018, BlueBay formalised its approach to ESG risk analysis by creating its Issuer ESG Evaluation Framework. This framework was developed so that BlueBay’s investment managers could: 

  • Primarily focus on risk, given their emphasis on capital preservation. 
  • Better account for improving ESG performance momentum, as BlueBay felt third-party ESG ratings could often be backward looking.
  • And to better account for the potential for multiple ESG credit risks associated with a single issuer, given an issuer may have multiple bonds with different credit characteristics.

BlueBay’s credit analysts conduct the initial ESG analysis, working closely with the firm’s ESG specialists, who then finalise the assessment. The analysis is conducted as standard for all new qualifying investments. 

As of April 2020, BlueBay has evaluated over 1,200 corporate and sovereign issuers, which represent over 90% of its held investments. Although the actual content of the issuer ESG evaluation varies for corporate and sovereign issuers, both result in same two proprietary ESG metrics: 

  1. A Fundamental ESG (Risk) Rating, which indicates a view on the quality of management of material ESG risks and/or opportunities faced by the issuer. There can only be one Fundamental ESG (Risk) Rating per issuer across BlueBay.
  2. An Investment ESG Score, which reflects an investment view on the extent to which the ESG factors are considered relevant to valuations, which is decision based and security specific. It also describes the nature of that materiality (i.e. positive, negative, neutral). As it is based on individual securities, there may be multiple Investment ESG Scores for a single issuer. 

These two ESG metrics are used as inputs alongside conventional credit scores by portfolio managers to inform their portfolio construction decisions. 

Since 2019, the two resulting issuer ESG metrics have fed into the Alpha Decision Tool, an in-house platform which enables investment teams to capture and monitor trade ideas. Whilst initially the ESG evaluation framework was housed separately from conventional credit research, in 2020 the analysis was embedded within the firm’s centralised in-house research platform, the Alpha Research Tool, placing all credit and ESG research in one place.  

ESG data and insights also feed through to Portfolio Insight, another proprietary tool that enables investment teams to view internal and external ESG metrics for their portfolios and associated benchmarks. 

How does this approach stand out in the market? Why is it unique? 

The issuer ESG evaluation allows BlueBay to demonstrate how ESG dynamics may play out in fixed income investing (compared with equities), as well as potentially between different debt strategies and issuer types (corporates, sovereigns and state-owned enterprises). In addition to this, it explicitly complements ESG insights gained from external sources with in-house knowledge and expertise. Making ESG insights visible and accessible alongside conventional credit metrics, such as conviction scores, promotes accountability by the firm’s risk takers.  

Give a practical example of how you have applied your approach to an investment (security/issuer/sector/asset class/portfolio), including any challenges faced and how you adapted to them. 

The issuer is a drug company that acquires and markets off-patent branded medicines. It previously reportedly took advantage of a loophole that enabled it to impose price rises on a limited number of drugs if it dropped an existing brand name and sold it under its generic name instead. A regulatory investigation concluded it did not break competition law. 

BlueBay’s high-yield credit analyst, who reviewed the company in 2019, initially decided not to invest. A ‘High’ Fundamental ESG (Risk) Rating and a ‘-2’ Investment ESG Score (high ESG investment related risks) were assigned, linked to the issuer’s exploitative pricing practices, which reflected poorly on its governance and damaged its reputation.  

However, in working through the ESG framework, the analyst was able to distinguish between past and future performance issues, acknowledging the company was making changes. After speaking with the company’s management and its shareholder, it became clear that the new private equity owner had taken robust action to promote an ethical culture. This included establishing a Social, Governance & Pricing Committee. Now that BlueBay had tangible evidence of change, it felt able to invest in the issuer, and will consider adjusting down the Investment ESG Score to ‘-1’ if it remains controversy-free. 

What were the outcomes of this initiative for the investment and how have you measured its success? What have you learned from this approach that can be applied more broadly? 

Bluebay’s Issuer ESG Evaluation Framework has led to tangible benefits for both analysts and investment professionals alike. These include: 

  • Greater ESG awareness and ownership by credit analysts.
  • Greater engagement between ESG, credit analysts and portfolio managers. 
  • Investment teams are more active in bringing up ESG matters with issuers. 
  • A more holistic issuer ESG assessment.  

Being able to consider ESG issuer risks and investment risks separately has proven to be of great benefit to BlueBay’s investment teams. As a result, portfolio managers not only consider ESG risks that directly influence bond prices, but are also able to identify ESG blind spots that markets are potentially not pricing correctly, if at all.  

Finally, the framework has also fostered accountability and transparency with BlueBay’s clients, as it has been able to use the outcomes to clearly illustrate how it has integrated ESG factors in their portfolios. 

Looking ahead, BlueBay has begun to explore how to apply, and potentially adapt, this approach to its structured credit strategies, having successfully done this for the private debt business (which has since been demerged). 

Externally, BlueBay has been sharing its Issuer ESG Evaluation Framework with peers and other key stakeholders. It has served an educational purpose to better understand how to think about integrating ESG in debt investing, by highlighting the similarities and key differences between integration in debt vs. equities, as well as between debt asset classes, and issuer types.