Sustainable Systematic Credit

Abstract

Interest in sustainable investing has exploded in recent years, initially focused on public equity markets, but now evolving into fixed income. We assess various aspects of sustainable investing for developed market corporate bond markets (both Investment Grade and High Yield). Using a representative set of sustainability measures spanning environment, societal and governance (ESG) constructs we find: (i) credit spreads are only marginally associated with ESG measures, (ii) ESG measures are only marginally associated with standard return forecasting measures for corporate bonds, (iii) ESG measures are not reliably associated with future credit excess returns, and (iv) ESG measures are negatively associated with the future volatility of credit excess returns. While the direct investment impact of sustainability is modest, there is still considerable interest from asset owners to ensure credit allocations are sustainable. We find that it is possible to incorporate (i) both static and dynamic exclusion screens, (ii) positive tilts toward more sustainable issuers, and (iii) economically meaningful reduction in carbon intensity, with minimal portfolio distortions. Thus, a well-implemented systematic approach has the potential to offer attractive risk-adjusted returns in a sustainable manner.

Keywords: ESG, credit, fixed income, portfolio choice, socially responsible investing, CSR

JEL Classification: G11, G12, G23, G34, M14, Q01, Q5