IIGCC publishes net zero guidance to standardise bond engagement

Document emphasises long-term engagement across the 'ecosystem', group chair Railpen calls for covenants to include climate.


The Institutional Investor Group on Climate Change (IIGCC) has published guidance for climate-related bond engagement in a bid to standardise efforts in the asset class, as well as established a hub to facilitate collaborative work.

The guidance is the first output of an investor working group established in December to look at the topic. Chandra Gopinathan, senior investment manager at UK pension fund Railpen and chair of the group, told Responsible Investor that the aim of the document was to provide a template for engagement.

“Engagement is active but also very bespoke and fragmented across the bondholder universe,” he said. “The guidance focuses on how to implement, how to engage, how to escalate and how to do that in a standardised manner.”

The document emphasises taking a long-term approach to stewardship across the financing lifecycle beyond the maturity of existing bond holdings. It sets out a six-step approach for effective stewardship, including ensuring asset owner and manager alignment and reporting on progress.

A key recommendation is ensuring that engagement is carried out across the whole ecosystem, including banks, rating agencies, second-party opinion providers and regulators. The guidance gives a series of case studies for its recommendations.

Value chain

Looking across the value chain, Gopinathan said engagement with passive ETFs and index providers may prove troublesome. “When it comes to core bond indices there are challenges in terms of how you steward on that front,” he said.

There may also be jurisdictional issues relating to banks which will need ironing out, he said, but regulators, industry bodies and rating agencies have been supportive.

One of the main aims of the group at launch was to provide an accountability and leverage mechanism for bond investors, who lack the ability to escalate engagement via AGM votes.

Railpen has carried out work on expanding covenants used in the high-yield market to integrate entity-level climate plans.

While climate and sustainability issues are not unusual in covenants in the ESG-labelled bond market, they have yet to become commonplace in the mainstream market.

“There’s been a lot of focus around labelled bonds but there is also the consideration of having covenants on the issuer level,” Gopinathan said. “If an issuer has a climate transition plan, why wouldn’t it make climate considerations a part of its overall covenant package.

“What we are hoping is that covenants can provide more incentives for issuers, particularly issuers who are already committed to net zero or are in the process of committing to net zero, to be able to demonstrate not just through words but actions that their bonds take into account climate considerations.”

Incorporating climate into covenants could take place by adapting existing structures.

For instance, conventional credit agreements include provisions to protect lenders against risky investments made by issuers, and Railpen suggested this could be replicated to prohibit investments in high-emissions businesses with significant transition risk.

Other structures which could be used include provisions on reporting, restricting lines of business and introducing caps on non-green capex.

Gopinathan said that Railpen has been speaking to banks and lawyers to get feedback, which has so far been positive. It plans to trial the idea with an issuer and is feeding in to a Financial Conduct Authority consultation on non-equity securities.

Collaborative push

The guidance also suggests that bondholders should consider joining existing initiatives such as CA100+, even when they are mainly focused on equities. When it launched its second phase this month, the engagement network included an explicit reference to bondholders for the first time.

Asked whether he was disappointed that it had taken CA100+ five years to include a reference to bond investors, Gopinathan said: “We can be disappointed about a lot of things in the world today but I’m quite pleased that it’s happened and it is moving forward.

“Informal collaboration across bondholders has always been an option but the fact that there is a more formal channel here to do this is hugely positive as well.”

The guidance says “motivation is building” for bond-specific collaborative efforts and encourages bondholders in non-listed companies to advocate for their inclusion in existing initiatives. Through the hub, IIGCC members will be able to flag upcoming financing or refinancing dates to facilitate pre-issuance engagement and flag their own upcoming engagements with high emitters.