Sovereign debt is one of the largest and most liquid markets globally. What ESG factors do investors look at when analysing sovereign debt investments? What challenges are sovereign debt investors facing? This episode, our team had the opportunity to speak to Jan Berthold, a senior sovereign analyst at Fidelity International. Join us to learn more about the current landscape and material ESG factors of sovereign debt investment analysis!
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Listen to the episode here and see the transcript below!
Ingrid:
Hello everyone, and welcome back to another episode of The Greenhouse! We are Ingrid and Kareena, and we will be your hosts for today’s episode.
Kareena:
Today, we’ve brought on a guest from Fidelity who is well-versed in the sustainable finance space as a senior sovereign analyst in the Emerging markets debt team based here in London. He focuses on analysing African and Middle Eastern banks along with various quasi-sovereign issuers. Welcome, Jan! Could you give a short introduction of yourself, including your background and your current role at Fidelity?
Jan:
Yes, of course. It’s a pleasure to be here. Thanks for inviting me. And also really appreciate the collaboration that Fidelity got with the Green Finance Society at LSE. Yeah, a quick intro for myself, so I've been with Fidelity for a while now about 11 years. Before that, I did my Master’s at LSE, I did MSc in Accounting and Finance there, so I do have a relationship with the university. For the most part of my job here at Fidelity, I've been based in the Emerging markets team as you just said, but yeah, I would also say my role covers quite a few things. More recently, it's really been a focus on sovereign debt analysis in Africa and the Middle East, as you said. Banks, I don't cover as actively anymore, but I used to have a decent coverage package. Over the years, I also had a look at Asia and a couple of selected Latin American issuers. I started out pretty much with more of a credit focus in my role, but in more recent years, and I would argue that the pandemic has turbocharged this a little bit, there's been a growing focus on ESG. So basically, environmental, social and governance factors as part of that job. So basically, to put them more plainly, it's more focused on sustainability. And more questions are being asked, well, the asset management industry, so companies like Fidelity can really do to help with that. Yeah. I guess you know, what, what companies like Fidelity do, it's basically an investment manager and we invest all kinds of people's money be it to mom-and-dad and their pensions, but also assets from sovereign wealth funds. And yeah, I find myself in the fixed-income division on the debt side of things.
Ingrid:
Thank you so much for sharing about your experience working in such a dynamic field, kind of maybe tapping further into that, how did you come to specialize in ESG analysis for sovereign debt? Especially since it's one of the largest and most liquid markets? Like how do you navigate complexity that comes with dealing with ESG regulations and analyzing the markets?
Jan:
Yeah, so you're right to say that the sovereign debt market is quite a large fund. I mean, the most important and most liquid instrument of them all is probably the US and the US government debt. But I work more on the emerging market side of things, and the liquidity here and the size of the market is significantly lower, although it varies depending on what country you're ultimately looking at. But yeah, the market is smaller, and countries that are bigger with the likes of, say, South Africa, which you can trade more easily. But then you have really niche ones like Rwannda, for instance, which is just one Eurobond outstanding. So yeah, the liquidity, it varies a little bit, and so does investor interest and attention, that's basically a function of the size of those markets. But yeah, I specialize in that. Well, I joined the graduate program at Fidelity and ultimately, that turned out to be a role in the space on the sovereign debt side, and personally, I find it quite interesting. There's this fascinating mix of economic analysis and political analysis. And, yeah, the job as much as headlines can be a bit depressing. Sometimes, you know, when you have to deal with things like war, or so that can be quite serious. But at the very least, I could say that the job is interesting is there's always something new to think about. And you know, at least personally, I'd like to think that by having a little bit of a contribution and sharing my own views, perhaps in some very small way, I can help to make the world a better place, talking about policymakers about sustainability and stuff like that. But yeah, also to address your question on the market evolution, I would say that initially, traditional credit analysis has been relatively more important in my field. So it's basically a plain vanilla analysis on the fiscal balance, on the balance of payments of a country, on inflation factors, on debt levels. But in recent years, additional factors have started playing a greater role. We look more explicitly what the government is doing to promote social togetherness, to promote equality both between genders, but also in income levels and all that, that's playing a greater role. And I can really see that playing a greater role in my discussions when I meet policymakers from the countries that I analyzed. So that trajectory, I think is relatively clear cut, there will be more developments on that front. And the whole ESG space, as we call it, the whole sustainability space will likely grow in size. Maybe we should also say that clients are increasingly asking for that. So there's more and more scrutiny from the end clients more and more demand. Initially, it was, you know, the Nordics in Europe, they've been really trailblazers in a couple of other countries in Europe. But it's really become a global phenomenon. This comes from a nice-to-have to a must-have, and think a lot of the industry would agree with that.
Kareena:
And thank you so much about, you know, mentioning about how you know, right now, end clients, it's a lot of larger focus on sustainability. So maybe you could tell us a little bit more about, on a slightly more technical side of things, maybe the scoring metrics that you use, when it comes to analyzing ESG sovereign debt? How do you maybe attribute weights to the different components of ESG, like you mentioned just now, a little bit about how governments are promoting like income inequality, gender equality, social togetherness. So how do you attribute weights to these different components? And what does that look like in practice?
Jan:
Yeah, I mean, this is not an easy question to answer and is frankly, something we've been discussing internally for quite some time. And the problem, this discussion will probably not go away anytime soon as we continue to evolve. But basically, we've come to the conclusion of our current framework, that is very hard to assign the same weights and the very same factors to each and every government as each country will differ a little bit. I mean, think about it, for instance, the factors that matter to Saudi Arabia will be quite different to than to those that matter to South Africa, South Africa, for instance, you have a big focus on income inequality, that's an issue, and also the usage of fossil fuels. In, Saudi Arabia, the export of fossil fuels that's a primary focus, and there’s also a big emphasis on, you know, gender equality, and also religious freedom in the country. So factors really vary. And it's very hard thing to come up with really clear buckets of country where you have the exact same factors. So what we ended up doing, is we have individual weights for each country, we look at all sub-components, we look at the sub-components of sustainability, the ‘E’, the ‘S’, and the ‘G’. So, environment, social and governance indicators. And within each of those categories, we have a number of questions that we try to analyze, as sovereign analysts here on the team. And the sub-components can be, for instance, on the kind of catalogue of questions that we're looking at, could include the scale of natural resource exploitations, the responsibility, you know, the sustainability angle that a country takes in order to extract those resources. It can be the focus on biodiversity, it can also include, you know, secondary, tertiary impacts of what a country does, in regards to how they promote sustainability in a certain dimension to other countries. For instance, do they spearhead international conferences? Do they host international conferences? To nourish the discussion in certain fields. So, yeah, if you look at all that we have got this catalogue of questions, catalogue of subcategories that we look at, and then we assign individual weights, and those will vary from sovereign to sovereign. But basically, we score them the ‘E’, the ‘S’ and the ‘G’ category separately. And afterwards, they all come together, and we come up with ESG score, basically. And that score at least at Fidelity, it comes out in one of five categories, it's letters from ‘A’ to ‘E’, ‘A’, is the best, ‘E’ the worst. And, yeah, to really get the highest scores, the country really has to show that they're making an impact, a positive impact. So it has to go beyond just the rhetoric, you actually have to take action. And the action has to be credible, it has to be sustained, it has to be ambitious enough. So you know, looking at the developed markets that have covered that at the moment, but one thing that's been in the press a couple of months ago has been the UK. Where there's been the argument that the UK is watering down its ambitiousness and therefore some of the sustainability plans aren't as credible as they could be. So, these are factors that we would take into account for any sovereign. So yeah, it's very specific basically, it depends on each individual sovereign how we assign weights. And yeah, we try to be nimble here. But I'm sure you know, this methodology will continue to evolve. That's that's the only thing certain, I think.
Ingrid:
Thank you for sharing about the difficulties of balancing these different priorities in different markets, and how Fidelity is trying to solve these issues by asking like these, this catalogue questions to score different sovereign debts. Now kind of zooming out here. So like, what sort of unique opportunities or challenges have you faced when dealing with sustainable sovereign debt investing?
Jan:
Yeah, so I think the biggest challenge, but also a very interesting dimension is it's a fast-growing market, and is very quickly evolving. It's very difficult to stand still and, you know, you think you have a framework in place, but then you turn around, you don't pay attention for a couple of minutes, and then you know, a client's interests change again, they evolve, new information comes in. So it's basically a market where you just constantly have to pay attention, and we constantly have to further enhance your processes and your structures. And it's really been a journey here for me so far. I mean, frankly, when I started my job here at Fidelity, I was actually asked by management to look a bit at sustainability more explicitly. But it's not really been a core focus. This is you know, why myself as a junior member of staff back then, you know, had so much autonomy, and so much focus on that, but now we have a large team actually, that does a formidable job at managing things. So, yeah, it's a fast-moving market. Also, another factor, I would mention, with regards to your question of what the opportunities and challenges we face, one thing I'm observing is that issuers, so basically, that issuers are paying a lot more attention to the sustainability angle. So typically, you know, even traditionally, less sustainability focus countries, when they speak to investors, they will still have a couple of slides now and their slide deck, where they show us some indicators on sustainability and things that they are doing. So, it's very difficult for anybody to hide anything in the current environment, and to not pay attention at all, because you will get these questions from investors, and it's always better to be proactive and share some data and some details. So I think that's positive. On the perhaps less positive side, is disclosure really varies, and it can be difficult, you know, to really compare one country to the other, in terms of the data that they publish, I think data quality is getting better all the time. And, you know, there's more and more organisations out there, both government-related entities and NGOs that try to make data more accessible, more timely. But there's still big gaps. For instance, if you look at a small country in Africa, you don't have the same quality of data on anything, or sustainability-related, compared to a more developed country with bigger resources, and perhaps that population is asking more explicitly or pressurizing government more explicitly, to disclose more, and then in a more credible fashion. So yeah, disclosure, is certainly an issue. And one of the things that we've seen in the space is you've seen more and more what we call labelled issuance. So basically, where green bonds are coming to market or blue bonds, we call it or social bonds, there's all kinds of structures out there. And initially, I think this instrument have received a lot of indiscriminate positive attention from investors. But increasingly, and I think for good reasons, investors are asking more questions with regards to how these instruments actually providing what they're promising to provide. And what's the ongoing disclosure like, right, it's easy, you know, to give a really good presentation to investors, and then the government gets that money. But how do you keep cracking on how do you hold the government accountable for the pledges if years later? So your disclosures, really key standardization of disclosure is key. And ultimately, you know, the more often that government wants to issue perhaps the more incentive there is to do better and and the disclosure and the ongoing dialogue with investors. So yeah, we really need to make sure as an investment community that we mitigate risks of greenwashing that we mitigate risks of, of poor disclosure and to unrealistic promises, and pouring money to projects that perhaps aren't worth it. So, yeah, that's definitely some challenges. Just to summarize is a fast-growing field with plenty of interest, and I think investors will keep issuers under pressure to do better and better. But at the same time, we also need to make sure we pay enough attention to disclosure, the disclosure is up for the disclosure sufficiently good. And we need to actually put in the effort of tracking what the government is doing after issuance so that we don't get lazy here. And really make sure that you know, we don't contribute to greenwashing issues.
Kareena:
Thank you so much about that. We definitely agree that it's really important right now to be mitigating the risks of greenwashing, along with the issues that you mentioned about labelled issuance, as well. So maybe continuing that sort of zoomed out vein of thought there are so many stakeholders that are present in these niche like governments, central banks, and maybe even Domestic Institutional investors, and I'm sure they all have differing priorities. So do you see any misalignment between investors that has made raising awareness on climate issues difficult?
Jan:
Yeah, I mean, there's just plenty of challenges here, unfortunately. But again, things are getting better. That's that's the silver lining. I think one of my personal biggest challenges, as an analyst who's trying to figure out whether a country is doing the right thing here on sustainability or not, is the lack of ESG or sustainability department. So in a company is pretty clear who you call, right? If you've got any questions, there’s an investor relations department, they're usually pretty good at relaying information from different parts of the organization. But who do you call in a governmen if you got a question on sustainability? Do you call the central bank governor? Do you call the finance minister? Do you call the Minister of the Economy? So I think what I've observed is some countries are making a real headway and establishing investor relations divisions that serve to answer questions. But it's still nowhere near the same, you know, quality and reliability on average, than what you have in a company. So this kind of lack of phone number you can call to really ask pertinent questions, that sort of challenge, finance ministries are probably going to take more of a leading role here. But again, one of the challenges with these guys is that is that the finance ministry, they're not the top decision-makers, right? Finance ministers are pretty important guy, and in most countries, however, they're not the Prime Minister, and they're not the President who are really calling the shots sometimes. So how do you make sure that you can get around to the top decision makers? How can you how do you make sure that you can even understand what the top decision-makers in the country are thinking as an investor? So these are still some of the challenges we need to overcome. And, frankly, one of the related challenges is that the top decision-makers often have short-term focus, right? They want to get reelected, in many countries who have regular elections, they want to make sure that they can deliver to the electorate, the kind of things that make people happy quickly. How do you make sure that governments do the right thing over many electoral cycles as is necessary in the sustainability realm? Right, so many of these projects will take a long time to yield dividends. How do you make sure that governments have this focus beyond the election cycles? That's a tricky one. So investors are I think, asking more and more questions on that front. And there are some good initiatives where investors are also pooling their bargaining power. There's a couple of agencies out there that help doing so. But all these efforts are still in their infancy. So yeah, plenty of misalignment, I think of interest still and lack of investor relations departments. But again, I'm hopeful, you know, this will be optimistic here, I am hopeful with all the pressure from investors, both investors and ourselves, that over time, things will get better.
Kareena:
I think that we definitely agree with that as well. The fact that even though efforts are still in their infancy, the possibility of there being a lot more investor relations departments in the future is definitely one that we can look forward to. So maybe moving on to the next question. We are currently entering an era and or maybe a year with perhaps the largest number of political elections in recent history. So do you think these election cycles will have any impact on the scene moving forward as well? And do you think there are any differences between developed and emerging markets for this? Maybe what specific components are governments currently prioritizing? And how is that going to evolve?
Jan:
Yeah, I would certainly agree that factors related to sustainability on climate and biodiversity are becoming increasingly important discussion point for a lot of people around the world. So I've had the privilege to have travelled a fair bit for various holidays but also on business trips, where I managed to speak to local goes. And you know, this topic on people being aware of climate change and the impact they have is becoming increasingly visible people talk more about the weather about changing climates, about the impact on agriculture, crops, but also just the the pleasantness of living in a certain place, be it the amount of sunshine or amount of rain a place might receive. So yes, the electorate, I think globally is paying more attention to it. But I would say, still, the pressure seems to be bigger in the developed world and in the emerging world. In the emerging world, in many countries, I noticed, you know, when people struggle, just to sometimes in some situations to make ends meet, to make sure there's enough food on the table. And all that, the focus is often you know, more in financial considerations more on what the government is doing on the fiscal side to make their lives easier that people might have, you know, an awareness of changing weather, so to just say, a changing climate, but it's perhaps not the most critical thing that they would want to hold governments accountable to while in the west, especially in the west, I think that debate has become more of a focus than elsewhere. So I think overall, the trajectory is clear. These topics will become more important across ‘DM’ and ‘EM’, because frankly, there's big change out there and people pay attention and governments are interested, and need to be held accountable, but ‘DM’ is still ahead of ‘EM’. Yeah, yeah. And hopefully, you know, ‘EM’, that pressure will pick up faster, because it's often ‘EM’ that has less resources to deal with the impact from natural disasters, from related crises, so that thereby the brunt of the burden. So hopefully, the lot of the people that lives in these places will improve and not deteriorate as quickly at least. So yeah, we need that emphasis to become even stronger, I think across the world is really become a climate emergency. I'm sure you know about that. And, yeah, just to emphasize investors, we need to do what we can to, you know, relay the concerns of our clients, and make sure we speak to governments in appropriate fashion.
Ingrid:
All right, thanks so much for sharing about how the sentiment of the ground could maybe influence sovereign debt investing, especially in the coming year. So just to round out the interview. Based on your experience, what advice would you give to students interested in a career in sustainability, specifically, the field you're in which is ESG Iinvesting and research?
Jan:
Yeah, I think that's a lot of things people can do at university. Most importantly, there's so many good societies at most universities that I'm aware of, right. I think a lot of universities now have green finance societies in some form, or fashion, or at least finance-related societies, that will host events in that field. Clearly at LSE, you've got that you've got the green finance of society, which I'm very well aware of. And yeah, attend events, ask questions, speak to corporate representatives, listen to this podcast, and I guess other podcasts that that might be around. So I think universities and university societies are a fantastic resource, you get to speak to employers, you get to exchange ideas with other students. Yeah, so be curious. And you know, don't be afraid of reaching out to organizations. So if you've got a really burning question, or a specific interest in a specific field, don't be afraid, you know, to dig out some of these contact details on LinkedIn, send them a message and try to see whether you could schedule a meeting, if that's something that's really on your mind. I think a lot of organizations like ours now have sustainability or related graduate programs, so internship programs. So if you're serious about this theme, if you feel like you might have a passion for sustainability, and you want to join in the journey about making finance greener, then by all means, have a look at those opportunities as well. There are you know, if you're really serious, I'm not sure I would encourage you to do that while you're studying because frankly, you're already drowning in exams and applications and all that. But if you're really serious, they're also green finance qualifications. For instance, the CFA Institute is doing a thing, a couple of things on their front and, so are other societies so it might help you to to learn a little bit more than then you might otherwise do. And I guess at university and right, you probably have more and more courses in this field. So yeah, I mean, bottom line, plenty of opportunities to learn. So the more you reach out, the more you figure out.
Ingrid:
Thank you Jan, for giving us an insight about your work and sharing your expertise about sustainable finance. It's really been such a valuable opportunity to speak to someone with your level of experience. So, unfortunately, we have come to the end of this episode. But I'm sure everyone has learned a lot from the wonderful experience and expertise that you have shared. So this has been Ingrid and Kareena from the greenhouse and we hope you visit again!