IIGCC Guidance on Bond Stewardship: Fighting for progress in fixed income

In December 2022, a group of nine asset managers and asset owners came together to form a bond stewardship working group. The group was chaired by Chandra Gopinathan, from the sustainable ownership team at Railpen, a British pension fund that manages over £37 billion in assets. 

The task was the develop a common institutional investor voice on bond stewardship.  Seven months later, they released the “Net Zero Bondholder Stewardship Guidance”, under the aegis of the Institutional Investors Group on Climate Change (IIGCC).

The group produced an updated guidance on bond stewardship in June this year, aimed at providing investors with new tools for engagement across the financing lifecycle. 

The update, focussed on stewardship for corporate bonds, comes amid a rapid increase in the size of global bond markets over the past decade. Fuelled by quantitative easing, global bond markets stood at $128.3tn in 2020, almost a third of that were corporate bonds.

While conversations surrounding stewardship and climate action are predominantly steered by equity investors, effective stewardship practices for bond holders have received little attention. Even though on average, bonds fund over 50% of a company’s capital.

Fundamental differences

The characteristics of stewardship for bond holders is fundamentally different. Corporate debt accords cash-flow rights to its holders in the form of coupon payments, but it does not come with voting power, unless debt swaps change this during restructuring.

Which means any climate stewardship must occur in the absence of resolutions or access to the annual general meeting.

The working group’s research helps identify what differentiates bond stewardship from equity.

Debt Lifecycle

Debt financing occurs through four phases: pre-issuance, issuance, post-issuance and maturity. The IIGCC guidance recommends maximising stewardship in each stage.

For example, in the debt structuring phase, “use of proceeds” opens a stewardship window.

In most cases, debt finance is earmarked for specific end uses. Defining what these end uses are and more importantly what they are not, is a negotiated outcome.

“Green bonds were created to fund projects that have positive environmental and/or climate benefits. The majority of the green bonds issued are green “use of proceeds” or asset-linked bonds”, says the Climate Bonds Initiative, an international organisation that develops a widely cited standard for green debt.

In addition, each stage of debt financing involves a different set of actors from credit rating agencies to underwriters. This, according to the IIGCC’s advice, should be leveraged:

“While bond issuers and investors are key to helping to progress the climatetransition and alignment with net zero targets, there are a number of actors resp onsible for bringing a bond to market. This provides stewardship opportunities across the ecosystem”, the report says.

Debt as an Access Point

Secondly, the guidance rejects the notion that engagement is solely the domain of equity holders.

“Engagement and escalation are critical to effective bondholder climate stewardship”, the IIGCC says.

Interestingly, debt finance is increasingly used in markets where historically, equity holders have had limited access.

For example, in private companies, bond engagement might be particularly powerful.

“Bondholders have a unique opportunity to try to influence private companies. Given that there are no public shareholders, creditors have a potentially strong voice”, says the IIGCC.

The guidance discusses the case of Insight Investment, an asset manager, which successfully engaged a large, private Singaporean holding company.

Over a five-year period following initial issuance in 2018, the bond engagement efforts bore fruit - the company appointed a chief sustainability officer, set a net zero by 2050 target and even set an internal carbon price.

Additionally, state-owned entities in emerging markets tend to rely heavily on debt to finance their capital structure. Sovereigns, central banks and corporates in emerging markets are among the world’s largest debt issuers. Equity engagement has a lack lustre history in such cases.

“Bond investors also have an opportunity to approach EM sovereigns and central banks who have strong regulation on some aspects of climate change and use that for deeper engagement with the sovereigns, SOEs and corporates”, the guidance reads.

Evidence seems to support the idea. In South Africa, coal phase outs have become common engagement grounds between bond investors and issuers. Some issuers have responded to bondholder communication that outlines the key demand of targeted, credible coal phase-outs.

Collaborative Engagement

Finally, the dual nature of most asset owners as both equity and debt investors is a force multiplier.

“Combining the insights of equity and fixed income investors magnifies the influence and voice of both parties”, the guidance says.

Both equity and bond stewardship depend on two key components – accessing and negotiating with company executives and assessing corporate climate disclosures.

The IIGCC guidance recommends that investors identify and maximise the scope for collaborative engagement between the two asset classes:

According to the IIGCC, “for climate stewardship, equity and credit investors are often aligned in their pursuit of decarbonisation strategies as the materiality to either investment is relatively similar”.