Invesco, an American independent investment management firm, found in its seventh annual study of sovereign investors that sovereigns and central banks’ increasing ESG appetite has led to investments in other asset classes, such as green bonds.
Alex Millar, head of EMEA institutional distribution sales at Invesco, said: “The fact that over half of all sovereign managers now incorporate official ESG policies reflects advancements in investors’ understanding of how to derive value from their application.”
Millar also said that he expects that ESG will further spread across asset classes, with “sophisticated adopters” moving “beyond equities into fixed income, and even, in some cases, real estate and infrastructure.”
“The fact that over half of all sovereign managers now incorporate official ESG policies reflects advancements in investors’ understanding of how to derive value from their application.”
Invesco surveyed 139 funds, out of which 68 were individual sovereign investors and 71 central banks and manage a total of more than $20trn of assets.
Sovereign implementation rising
ESG implementation remains most prevalent among sovereigns in the West (76%), but it is now also common in the Middle East (67%) and Asia (59%) following an increase in adoption.
In 2019, a sample of 37 sovereigns showed that ESG is incorporated in equities at 97%, in fixed income at 65%, real estate (unlisted) at 57%, infrastructure at 49% and private equity at 43%.
Yet, while 45% of sovereigns and nearly one third (28%) of central banks are currently invested in green bonds, 74% of central banks don’t expect their exposure to rise in the next three years.
Green bonds are seen as an easier way of taking ESG considerations into fixed income by sovereigns despite a lack of supply and liquidity. Some sovereigns cited valuation concerns.
Central banks invest in green bonds because of an opportunity for yield enhancement within the government and multilateral bond sector as well as a feeling of “obligation”, even though only 20% of central banks have a formal ESG policy.
Absence of quality ESG data
The absence of quality ESG data remains a key issue, with 52% of sovereigns citing quality data and ratings as the main challenge in incorporating ESG. Second highest barrier to ESG investment is the limited choice of investments (31%) and a lack of regulatory support (31%).
Sovereigns have shifted in their investments from governance issues to environmental concerns within ESG, citing that “climate change/carbon emissions” is their single most important ESG issue.
This, the study said was due to some sovereigns seeing material risks by unprecedented changes from physical climate risks, such as hurricanes, heatwaves, earthquakes and wildfires, in both developed and emerging markets.
However, corruption and corporate governance are still ranked high within sovereigns’ key ESG criteria.
Sovereigns have found it difficult to adopt and integrate social issues because of difficulties to define the ‘S’ factor and measure it.
Millar said: “While there are many contributing factors to this rise, it is a clear and heartening signal that governments and investors are beginning to take environmental concerns – and particularly climate change – very seriously.”