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Fixed income

Investing responsibly doesn’t come at the expense of alpha

Jessica Zarzycki
Portfolio Manager
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With green and sustainable bond issuance setting new records globally each year, asset manager and responsible investing leader Nuveen is committed to directing capital towards positive environmental projects that support companies’ transition towards net zero initiatives, with a deep commitment to engagement and transparency in its intentional portfolios.

Estimates of three to five trillion dollars a year is needed for the transition towards a net zero carbon emissions target by 20501, and public fixed income markets are playing a key role in lowering the cost of capital for borrowers financing impact projects and initiatives.

We believe public securities offer impact investors a range of advantages over private investments, including daily pricing and liquidity, along with exposure to impact opportunities with a far lower minimum investment. Nuveen refers to its impact criteria as “direct and measurable,” which refers to clearly defined use of proceeds (UoP) and targeted outcomes, alongside transparent, objective reporting on those outcomes.

Last year saw record global issuance in labelled global green, social and sustainable bonds (“impact”) of US$1.1 trillion, and the market is on track to exceed that amount this year2. As one of the world’s largest owners of impact bonds, Nuveen pursues investments in securities whose proceeds go towards positive environmental and social projects with measureable outcomes. These include renewable energy projects and accompanying transmission and distribution lines, protecting terrestrial and marine habitats and wildlife, promoting more sustainable communities, improving access to clean water and fresh, reliable food supplies, and directing capital towards affordable housing.

Nuveen launched its first dedicated responsible investing strategy in 1990–a “balanced” equity and fixed income portfolio using negative screening which sometimes excluded entire industries or market segments.

Markets have evolved significantly since that time, says Jessica Zarzycki, a fixed income portfolio manager, at Nuveen. In 2007, Nuveen launched its direct and measurable impact framework and a complementary ESG Leadership approach. The ESG Leadership approach seeks to direct capital to the best managed and operated companies by sector. Nuveen targets issuers that are better environmental stewards, with strong governance framework, and roadmaps towards net zero. Rather than exclude or divest, Nuveen believes an ESG/impact investor should direct capital at those issuers who exemplify proactive management of material climate and transition risk, as well as other key E, S, and G factors – such as employee safety, clean regulatory records, and robust, standardized disclosure practices. Zarzycki says that Nuveen engages such companies to issue dedicated green or sustainable bonds (based on UoP), but also recognizes that vast amounts of new capital are required to finance decarbonization efforts globally.

This ESG Leadership approach provides the carrot to peer companies that are laggards, to continue to improve disclosure and transparency, to improve environmental standards, and to invest in projects that drive towards net zero goals,

Zarzycki says. “That also means the bar is continually moved higher in each industry as the ESG Leadership behaviors evolve for the better. Large, publicly-traded companies are moving in the right direction, with regulators often compelling better disclosure, but there remains a lack of standardisation across measurements and indicators.”

Now managing around US$1.2 trillion of assets, Nuveen has over five decades of experience in responsible investing. Among the many industry-leading organisations with whom Nuveen partners or engages with, Nuveen is a drafting signatory of the Principles for Responsible Investment, a founding member of the SASB Investor Advisory Group, and a founding member of the investors council of the Global Impact Investing Network and original member of the Green Bond Principles executive committee. Nuveen is also a subject matter expert for ratings agencies Moody’s and S&P.

Engaging for greater transparency and broader impact

Nuveen’s strict, long-standing impact framework differentiates it from other responsible investors, with a proprietary approach that seeks to deliver and quantify environmental and social benefits while outperforming well-known bond market benchmarks. With no industry-wide definition of terms like “sustainable,” “responsible,” or “impact” investing, Nuveen’s fixed income and responsible investing teams in 2007 created clearly defined impact standards. Significant resources now go into engaging issuers and underwriters to standardise measurements and indicators across project types and thematic outcomes so they are easy for investors to understand and compare.

“We require all of the green bonds that we invest in to report annual impact metrics, which means we know exactly when and where we’re investing in a wind farm or solar farm, how much power they’re generating per year, and how this electricity will be connected and transmitted to utility customers. We seek this transparency to support the on-going investment thesis and to facilitate reporting to our clients,” Zarzycki says.

Nuveen’s engagement extends to helping build the market with inaugural or template transactions. The firm’s relationship with issuers and underwriters paves the way for first-of-their-kind environmental and social bond transactions, setting the stage for similar, subsequent deals to come to market. Zarzycki cited the wildlife conservation bond, which priced in March 2022, as a recent example. The security will support black rhino conservation efforts in Africa.

Assessing financial results and impact outcomes

Investors have two ways to judge Nuveen’s impact investing results: Using conventional total return and risk-adjusted performance metrics relative to widely used bond market benchmarks and traditional peer groups; and looking at Nuveen’s publicly disclosed impact reporting for measurable outcomes of its impact strategies.

The idea that responsible investing requires investors to sacrifice financial performance is a key misconception Zarzycki wants to dispel. A growing body of empirical research indicates RI strategies have the potential to enhance long-term performance, lower risk and achieve positive, measurable results, Zarzycki says. Intensive fundamental credit analysis and portfolio construction considerations ensure bonds are not bought exclusively for their environmental and social impact, but also for their attractive relative value and levels of risk.

Nuveen seeks to maximize impact in its intentional total return portfolios but doesn’t maintain an explicit target allocation, as this would potentially undermine its ability to beat benchmarks and manage sector- and portfolio-level risk. The impact market continues to grow and diversify, so Nuveen expect to see additional opportunities in both labeled and nonlabelled impact bonds.

“Financial Performance and impact reporting is how you show clients that you have the power to direct your money towards good, and you don’t have to sacrifice returns,” Zarzycki says.

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1 McKinsey report: The net-zero transition: What it would cost, what it could bring

2ICE data service

Responsible investing incorporates Environmental Social Governance (ESG) factors that may affect exposure to issuers, sectors, industries, limiting the type and number of investment opportunities available, which could result in excluding investments that perform well.

ESG integration is the consideration of financially material ESG factors in support of portfolio management for actively managed strategies. Financial materiality of ESG factors varies by asset class and investment strategy. Applicability of ESG factors may differ across investment strategies. ESG factors are among many factors considered in evaluating an investment decision, and unless otherwise stated in the relevant offering memorandum or prospectus, do not alter the investment guidelines, strategy or objectives.

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