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Loomis, Sayles & Company, L.P.

PRI reporting framework 2020

You are in Direct - Fixed Income » ESG incorporation in actively managed fixed income

ESG incorporation in actively managed fixed income

Implementation processes

FI 01. Incorporation strategies applied

Indicate (1) Which ESG incorporation strategy and/or combination of strategies you apply to your actively managed fixed income investments; and (2) The proportion (+/- 5%) of your total actively managed fixed income investments each strategy applies to.
SSA
0 Screening alone
0 Thematic alone
95 Integration alone
5 Screening + integration strategies
0 Thematic + integration strategies
0 Screening + thematic strategies
0 All three strategies combined
0 No incorporation strategies applied
100%
Corporate (financial)
0 Screening alone
0 Thematic alone
95 Integration alone
5 Screening + integration strategies
0 Thematic + integration strategies
0 Screening + thematic strategies
0 All three strategies combined
0 No incorporation strategies applied
100%
Corporate (non-financial)
0 Screening alone
0 Thematic alone
95 Integration alone
5 Screening + integration strategies
0 Thematic + integration strategies
0 Screening + thematic strategies
0 All three strategies combined
0 No incorporation strategies applied
100%
Securitised
0 Screening alone
0 Thematic alone
100 Integration alone
0 Screening + integration strategies
0 Thematic + integration strategies
0 Screening + thematic strategies
0 All three strategies combined
0 No incorporation strategies applied
100%

01.2. Describe your reasons for choosing a particular ESG incorporation strategy and how combinations of strategies are used.

At Loomis Sayles, we believe that ESG issues play an important role in the global economy, both from a business and investment perspective. Loomis Sayles embraces its duty to act at all times in our clients' best interest, and we believe that ESG issues impact our goal of achieving superior, risk-adjusted returns. We understand that environmental, social, and corporate governance practices may present risks that need to be evaluated, and we analyze these risks as part of our fundamental research process.

We analyze risks by modeling long-term business opportunities and challenges, by identifying risks inherent in industries and sectors, and by using a variety of methods to evaluate ESG issues, including engagement with issuers and the use of third-party analytical tools. 

With respect to integration, we expect our investment professionals to consider any macro, fundamental and quantitative research insights that they deem to be material to their investment process, including those related to ESG.

Unless otherwise directed, with respect to screening, Loomis Sayles does not impose any ESG restrictions or exclusions on the investment process. Screening performed is mandated by our clients' guidelines, or by regulation.

01.3. Additional information [Optional].


FI 02. ESG issues and issuer research

02.1. Indicate which ESG factors you systematically research as part of your analysis on issuers.

Select all that apply
SSA
Corporate (financial)
Corporate (non-financial)
Securitised
Environmental data
Social data
Governance data

02.2. Indicate what format your ESG information comes in and where you typically source it

Indicate who provides this information  

Indicate who provides this information  

Indicate who provides this information  

Indicate who provides this information  

Indicate who provides this information  

02.3. Provide a brief description of the ESG information used, highlighting any differences in sources of information across your ESG incorporation strategies.

ESG issues are considered as part of the firm's investment decision-making process. We use ESG research and/or issuer scores from MSCI, Sustainalytics, TruValue Labs, and the credit rating agencies (Moody's S&P, & Fitch). We are also a SASB Alliance member and use their framework as the foundation of our fixed income materiality maps. Loomis Sayles utilizes information from financial news publications, specialist data services, and economic and political consulting groups, and has considerable access to Wall Street research publications and sell-side analysts. At all times, Loomis Sayles has as one of its goals to continually identify additional superior tools for the research analysts and the investment teams. We continually evaluate the existing resources and the need to supplement them, through (1) the acquisition of data, and (2) the development of technological tools.  The analysis focuses on whether our resources sufficiently capture data to assist in incorporating ESG into the investment process, and whether other resources may be necessary in the future.

 

02.4. Additional information. [Optional]

The securitized team has assessed the MSCI ESG Manager database and utilized report of frequent issuers and servicers in the securitization market. Overall, we hae not found the data in these areas to be particularly helpful to our securitized analysis for two main reasons:

  • Many of the finance companies that access the securitization markets are smaller finance companies, often privately held, and in general not tracked by these data providers, which tend to focus on larger public companies.
  • When large companies are covered by these data providers, the ratings and research applies to the parent company and not to the issuer of the securitization program.

Third party data in 2019 seems to be consistent with prior years' offerings.  Looking ahead, credit rating agencies have proposed frameworks that we are evaluating and we find that there is increasing willingess of issuers to discuss the topics and a move towards direct ESG disclosure in their offering documents.  Encouragingly, issuers are beginning to proactively disclose information and therefore issuer data is more available.  Sell side researchers are publishing more on ESG in the securitization space, which provides additional data points in our ESG analysis and integration.


FI 03. Processes to ensure analysis is robust

03.1. Indicate how you ensure that your ESG research process is robust:

specify description

          We are developing fixed income materiality maps as well as internal ESG scores, which are being shared with the investment teams.
        

03.2. Describe how your ESG information or analysis is shared among your investment team.

          Our periodic industry and issuer reviews include a written presentation of ESG factors and they are discussed if material.
        

03.3. Additional information. [Optional]

We have an internally-developed application, our ESG Center, for the collection of external and internal ESG data and research.  We originally brought MSCI ESG data in-house, and in 2018 integrated TrueValue Labs and the SASB Framework.  We are in the process of integrating Sustainalytics.  The portfolio managers are able to use the ESG Center to assess ESG metrics within their portfolios, and in the benchmarks relevant to their client accounts.  Additionally, we are working with our Quantitative Team to incorporate ESG metrics into our Unified Relative Value Tool (URV) and Emerging Market Relative Value Tool (ERV).  

Our Chief Investment Risk Officer conducts semi-annual investment risk reviews with each investment team.  In order to assess awareness of ESG issues in the portfolios, the review includes exposure by ESG rating for the portfolio, performance by ESG rating, and a review of the lower ESG-rated securities held in the portfolio.  The CIRO has recently incorporated climate-related data into the portfolio reviews.  Based on the review, the CIRO shares processes and practices across all investment teams.


(A) Implementation: Screening

FI 04. Types of screening applied

04.1. Indicate the type of screening you conduct.

Select all that apply
SSA
Corporate (financial)
Corporate (non-financial)
Negative/exclusionary screening
Positive/best-in-class screening
Norms-based screening

04.2. Describe your approach to screening for internally managed active fixed income

For portfolios where we also incorporate ESG screening, it is mandated by our clients' guidelines or by regulation and is in addition to our ESG integration work.  Loomis Sayles does not impose any ESG restrictions or exclusions on the investment process. We have the ability to code specific screening restrictions within our trading compliance system. We may partner with external partners with ESG expertise to assist in meeting the client's particular screening requirements.

04.3. Additional information. [Optional]


FI 05. Examples of ESG factors in screening process

05.1. Provide examples of how ESG factors are included in your screening criteria.

Type of fixed income

ESG factors

Screening

Description of how ESG factors are used as the screening criteria

Example 1: Environmental, Social and Governance Screening

Our analyst believes that this consumer electronics hardware manufacturer is an industry leader in adhering to ESG principles and disclosures, especially as it relates to environmental and supply chain efforts. Although the company has the ability to generate and control vast amounts of customer data, its management has made a concerted effort to limit data collection, which we view as commendable, especially when compared to industry peers. Importantly, we note that the company benefits from well above average spending in the areas of security, compliance and regulation globally. In an environment where consumers are becoming increasingly aware and concerned about managing their personal data footprint, this company places a high priority on consumer trust. Meanwhile, regulatory compliance is extremely important in maintaining the brand’s image as a privacy-focused electronics producer aligned with the best interests of its customers. These practices allow the company to sustain growth by pivoting towards software and services focused offerings. Our analyst believes this privacy-focus will continue to positively differentiate its product offerings, especially against a primary competitor that is known to have questionable ethics and totalitarian-governmental ties.

Type of fixed income

ESG factors

Screening

Description of how ESG factors are used as the screening criteria

Example 2.1: Environmental Factor Screening 

One of the largest and most well managed property and casualty insurance (P&C) companies recently announced that it is phasing out coal insurance and investment over the next three years in an effort to combat climate change. This represents the first U.S. focused primary P&C company to take this action. While coal underwriting is not a large business for the company, the announcement sets a positive example for a U.S. focused P&C company to follow and speaks to the company’s commitment in addressing climate change. Our analyst is of the opinion that P&C companies have an incentive to move away from coal given the link between burning coal and the warming of the earth’s climate and the rising frequency of weather-related insurance claims. 

Example 2.2: Social and Governance Screening

Allegations of a scandal caused bond spreads to widen significantly for this global bank. We view money laundering as a reflection of a lack of proper corporate governance as well as a social issue, given the fostering of criminal activity. Our analyst was able to engage directly with management in order to ensure that steps had been taken to address the deficiencies which contributed to the scandal. Governance improved with additional controls put in place and the closing of the offending facility.  The social impacts were partly mitigated through donations of all profits generated from the bank’s illicit operations to organizations charged with preventing financial crimes. Management detailed both the strengths and shortcomings of internal investigations, thereby allowing us to become more comfortable with the range of potential outcomes. History indicates that incidences of money laundering have a material impact on an issuer’s bond prices. In this instance, the bank was required to offer a substantial premium, compared to its peers, in order to complete its inaugural non-preferred senior bond issue. After carefully reviewing the facts and estimating a range of potential financial penalties, we became comfortable that the premium offered by the issuer compensated bondholders for even the most severe potential outcomes.  

Type of fixed income

ESG factors

Screening

Description of how ESG factors are used as the screening criteria

Example 3.1: Environmental Screening

This leading wireless operator is on track to meet its goals to reduce carbon emissions. Notably, the CEO views sustainability as a top corporate priority. To fund energy saving measures, the company issued an inaugural green bond in 2019 -- the only one within the telecom/cable industry. Additionally, the company’s investments in network and technology provide a myriad of energy-efficient solutions to businesses and consumers. Our analyst notes that the company possesses the following three attributes: 1) The company has a clear goal to reduce carbon intensity by 50% by 2025 and to become carbon neutral by 2035; 2) The CEO is a member of the U.N. Global Compact and helped draft the 17 Sustainable Development Goals (SDGs) to be achieved by 2030; and 3) Investment in connectivity provides technology-based solutions that empower customers to reduce energy usage and carbon footprint, such as telecommuting, telematics, telemedicine and smart building/city management. The Loomis Sayles analyst believes this issuer’s strong ESG image has raised investor demand for the company’s securities to reduce funding costs while its green bond issuance provides funding diversification.  Our analyst has also engaged with the company to offer feedback on how to improve communication to third party assessors and investors on the topic of ESG.

Example 3.2: Social and Governance Screening

This consumer credit and data analytics company holds a meaningful amount of personal consumer data and thus has exposure to ESG risks including data breaches and potential controversy around the use of that personal data. Several years ago the company experienced a widespread breach of consumer data. Uncertainty around the settlements negatively impacted the credit profile and created a lengthy but temporary dislocation in bond spreads. However, costs related to the breach, including settlements as well as the need to improve the firm’s cybersecurity, are now quantified thereby providing investor comfort. 

The Loomis Sayles analyst has engaged with management on numerous occasions to discuss the steps and measures taken to increase efforts in security, compliance and regulation – which also included the elevated and ongoing costs to achieve these steps.  This dialogue reinforced the importance of these efforts in the stability of the overall business and also gave us comfort in the impact to cash flow and leverage related to the breach.

Type of fixed income

ESG factors

Screening

Description of how ESG factors are used as the screening criteria

Example 4.1: Environmental and Governance Screening

The company in question was previously known as one of the largest pharmaceutical manufacturers globally. However, a 2018 acquisition of a chemical and agricultural producer significantly increased the regulatory and litigation risk for the legacy credit.  As a result, the company now faces enhanced product safety and reputational concerns that could result in a multi-billion dollar payout as well as the inability to sell a major product in its existing portfolio.  While the validity of these concerns is still being debated scientifically, recent developments in the legal cases have contributed to significant volatility in the company’s bond spreads. A review by the Loomis Sayles analyst of the litigation deemed the potential liability manageable, given the company’s strong cash flow and improving balance sheet. Nevertheless, these concerns were highlighted as a major risk factor in the analyst’s recommendation.  

Example 4.2: Social and Governance Screening

A tobacco company has been focused on researching, refining, and marketing alternatives to combustible cigarettes that are believed to be less harmful to consumers’ health. While its competitors have been discussing similar types of investments in reduced risk products with a focus on switching existing smokers, this company has been the most proactive in this area. It has been able to grow its smoke-free heated tobacco portfolio to over 12% of sales and spent 92% of its R&D budget on smoke-free products. The product has gained acceptance in certain parts of Asia and Europe and has recently become available in the US market. Positively, it is not available in flavors that would appeal to youth.

Our analyst also notes that its product development efforts and engagement with investors set it apart from its peers. The Loomis Sayles analyst met with the Chief Sustainability Officer which led to a clearer understanding of the company’s goals, focus, and ambition to continue to grow its heated tobacco portfolio even if it cannibalizes its highly profitable combustible cigarette brands. This company’s efforts to evolve and transform itself support our fundamental credit view.

Type of fixed income

ESG factors

Screening

Description of how ESG factors are used as the screening criteria

Example 1 - Environmental, Social and Governance Screening.

This country consistently scores well on both social and governance indicators. However, it remains susceptible to climate-change related environmental risks, with drought and bushfires a regular occurrence. The analyst has weighed the returns on investment against environmental risks, related social factors and the government's responsiveness in reacting to such issues. The damage from the fires has affected 10 million hectares of land and destroyed more than 2000 homes. Huge numbers of animals have either been killed or displaced. The analyst believes that growth will continue to be impacted via the disruption to economic activity. There is expected to be reduced consumption, lower productivity from poor health, damaged infrastructure leading to supply-side bottlenecks, and a fall in tourism. The analyst believes that the central bank and government will be proactive in their response but the fiscal cost of such measures is unclear.

05.2. Additional information.

In the examples above, we focused not on our client-driven guideline screening, but on ESG issues that resulted in different investment decisions (e.g., exclude, buy, sell, hold, overweight, underweight), based on the explanatory notes associated with this question.


FI 06. Screening - ensuring criteria are met

06.1. Indicate which systems your organisation has to ensure that fund screening criteria are not breached in fixed income investments.

Type of screening
Checks
Negative/exclusionary screening
Norms-based screening

06.2. Additional information. [Optional]

We take the utmost care in making and implementing investment decisions for client accounts. Before initiating trading for a new account, portfolio managers and/or client service representatives work closely with the client to agree upon limitations and constraints that meet the client's long-term goals and risk tolerances. Portfolio managers and other members of the Investment Management Team, where applicable, are then primarily responsible for complying with their clients guidelines. They use a variety of sources such as Bloomberg and internal accounting system reports to assist them with their compliance responsibilities.

To enhance client guideline compliance monitoring, we have an integrated and automated compliance management system called the Charles River ComplianceMaster System (CRD). CRD is linked to our Charles River Trading System and our accounting system. CRD offers pre-trade, post trade, and batch compliance monitoring capabilities that are used as appropriate for the type of restriction and account being tested. Where operational on a pre-trade basis, CRD is designed to prevent a prohibited client transaction from being sent to the trading desk for execution. The batch compliance reports identify potential guideline issues caused by market movement or other non-volitional events, such as rating downgrades, on a daily basis. The Client Guideline Compliance Team within our Legal and Compliance Department codes client guidelines in CRD, and monitors the portfolio managers' compliance with the client guidelines that have been coded in the system. Currently all of Loomis Sayles institutional fixed income and equity client accounts are coded in CRD. The guidelines of new clients are coded, to the extent feasible, in CRD before or shortly after the start date of a new client account.


(C) Implementation: Integration

FI 10. Integration overview

10.1. Describe your approach to integrating ESG into traditional financial analysis.

We believe that integrating the key material ESG factors is a part of traditional financial analysis.

We made the strategic decision to integrate and embed our ESG work wthin our existing research and investment teams, instead of creating a separate ESG group of analysts.  We believe this structure helps to effectively and authentically integrate the key material ESG issues within research and portfolio management.  We have an ESG Committee, consisting of a full time Director of ESG (appointed in 2018), as well as key investment, marketing, legal, technology and compliance representatives across the firm.  Our ESG Committee has been in place since 2012, and we continue to enhance the process by adding subcommittees such as in marketing, technology, etc.  We also have an Advisory Board that includes members of our executive team.  All of our fixed income assets are included within our ESG incorporation stategy. 

Each investment team considers ESG integration according to its investment philosophy; we do not subscribe to a single investment process.  ESG risks and opportunities stem from factors including an issuer’s management strength and strategy, the use of human and natural resources, as well as regulatory and political considerations.  ESG factors can be critical to evaluating the sustainability of an issuer and the expected impact on investment performance.  Loomis Sayles’ investment teams determine the materiality of these factors in investment decisions, other than where client or regulatory restrictions apply.

10.2. Describe how your ESG integration approach is adapted to each of the different types of fixed income you invest in.

SSA

ESG factors are fundamental to sovereign credit analysis. Using data from government and independent sources, we look at social factors like access to education and health care, environmental concerns regarding resource constraints, and governance factors like rule of law and quality of institutions. We incorporate into our long term view the published rankings of countries on specific factors like income inequality, the ease of doing business, and the level of corruption in the public sector. Governance issues are a key determinent in our assessments. These issues are discussed at our regularly scheduled product team meetings.

Corporate (financial)

We believe E, S, and G are all important factors to consider as part of ESG integration within the financial sector.  Currently, governance factors appear to receive the highest degree of scrutiny of the ESG metrics.  These are the types of things we assess as part of governance of financial companies: the turnover rate of senior management, the maintenance of prudent financial and risk management policies, the ability to balance the needs of all stakeholders, the severity of pending litigation, separation of the chairman and CEO positions, and the qualifications of company management and board of directors.  However, social factors are also important in the analysis of financial institutions.  We evaluate an issuer's relationship with its customers including fair pricing policies, transparency of terms, labor management practices, and fair lending initiatives.  On environmental matters, we note whether financial institutions participate in the "green bond" market and if they are addressing the growing customer preference of the digitization of products.  These issues are discussed at our regularly scheduled product team meetings.

Corporate (non-financial)

For analysis of corporate issuers, our analysts focus on the material ESG factors identified for each industry and then assess the specific risks and opportunities for each issuer. For example, environmental risks are critical for the automotive, energy and utility industries. Policies to reduce carbon footprints are assessed, including their progress versus competitors. Social factors may be material for apparel producers and the retail industry as they relate to the sourcing of products throughout the supply chain.  We also look at the qualifications, tenure, and diversity of the board of directors. The quality of labor relations is measured by a company's safety record, frequency of job actions, turnover, diversity, and opportunities for advancement. These issues are discussed at our regularly scheduled product team meetings.

 

 

Securitised

Governance is an important factor in the analysis of securitizations.  We evaluate governance primarily as it relates to the alignment of interest between the sponsor and the investor.  More specifically, we look at whether the sponsor is using securitization simply as a method of exit or risk transfer, or as a funding source in which they will continue to participate.  We seek structures where there is strong alignment of interests.  Social and environmental matters are not always relevant to the securitized space.  However, with respect to social factors, we identify and avoid structures and programs that could be viewed as predatory toward consumers.

10.3. Additional information [OPTIONAL]


FI 11. Integration - ESG information in investment processes

11.1. Indicate how ESG information is typically used as part of your investment process.

Select all that apply
SSA
Corporate (financial)
Corporate (non-financial)
Securitised
ESG analysis is integrated into fundamental analysis
ESG analysis is used to adjust the internal credit assessments of issuers.
ESG analysis is used to adjust forecasted financials and future cash flow estimates.
ESG analysis impacts the ranking of an issuer relative to a chosen peer group.
An issuer`s ESG bond spreads and its relative value versus its sector peers are analysed to find out if all risks are priced in.
The impact of ESG analysis on bonds of an issuer with different durations/maturities are analysed.
Sensitivity analysis and scenario analysis are applied to valuation models to compare the difference between base-case and ESG-integrated security valuation.
ESG analysis is integrated into portfolio weighting decisions.
Companies, sectors, countries and currency and monitored for changes in ESG exposure and for breaches of risk limits.
The ESG profile of portfolios is examined for securities with high ESG risks and assessed relative to the ESG profile of a benchmark.
Other, specify in Additional Information

11.2. Additional information [OPTIONAL]

The investment teams have access to ESG scores across their portfolios and relative to the benchmarks against which their accounts are compared.


FI 12. Integration - E,S and G issues reviewed

12.1. Indicate the extent to which ESG issues are reviewed in your integration process.

Environment
Social
Governance
SSA

Environmental

Social

Governance

Corporate (financial)

Environmental

Social

Governance

Corporate (non-financial)

Environmental

Social

Governance

Securitised

Environmental

Social

Governance

12.2. Please provide more detail on how you review E, S and/or G factors in your integration process.

SSA

ESG factors are fundamental to sovereign credit analysis. Using data from government and independent sources, we look at social factors like access to education and health care, environmental concerns regarding resource constraints, and governance factors like rule of law and quality of institutions. We incorporate into our long term view the published rankings of countries on specific factors like income inequality, the ease of doing business, and the level of corruption in the public sector. Governance issues are a key determinent in our assessments. These issues are discussed at our periodic product team meetings.

Corporate (financial)

Within the financial sector, we believe governance factors receive the highest degree of scrutiny of the ESG metrics.  We view the governance history of financial companies as it relates to the turnover rate of senior management, the maintenance of prudent financial and risk management policies, the ability to balance the needs of all stakeholders, the severity of pending litigation, whether the chairman and CEO positions are separate as well as the experience/qualifications of company leaders, including the board of directors.  However, social factors are also important in the analysis of financial institutions.  We evaluate an issuer's relationship with its customers including fair pricing policies, transparency of terms, labor management practices, and fair lending initiatives.  On environmental matters, we note whether financial institutions participate in the "green bond" market and if they are addressing the growing customer preference of the digitization of products.  These issues are discussed at our periodic product team meetings.

Corporate (non-financial)

For analysis of corporate issuers, our team of experienced analysts focus on the material ESG factors identified for each industry and then assess the specific risks and opportunities for each issuer. For example, environmental risks are critical for the automotive, energy, metals & mining, and utility industries. Policies to reduce carbon footprints are assessed, including their progress versus competitors. Social factors come to the forefront for apparel producers and the retail industry as they relate to the sourcing of products throughout the supply chain.  We also look at the qualifications, tenure, and diversity of the board of directors. The quality of labor relations is measured by a company's safety record, frequency of job actions, turnover, diversity, and opportunities for advancement. These issues are discussed at our periodic product team meetings.

Securitised

The relevance of ESG factors varies widely in the securitized market.

Governance analysis within securitizations is done at the deal sponsor level. Governance vis-a-vis alignment of interests between the sponsor and investor is relevant to all structures. Loomis Sayles, through industry/investor associations, led the effort to design and generate industry consensus with regard to enhanced structures to provide alignment of interests between the sponsors of MBS deals and the investors in those deals. These efforts have been coordinated by a task force facilitated by the US Treasury Department and its results published in 2016 (http://www.fairmortgagemarkets.org). In 2018 Loomis Sayles was among the founding members of the Fixed Income Investor Network, an investor-led coalition to promote a well-functioning marketplace (https://www.imn.org/structured-finance/conference/Fixed-Income-Investor-Network/Description.html).  Continuing our leadership role in the Securitized Asset investor space: 1. Actively engaged SFA and are part of their initial ESG committee. 2. We agreed to participate on the ESG panel discussion at the SFA conference 2020.  3. FIIN is live and incorporated, and our head of Securitized Investments will act as the chair of the organization for its inaugural 2 year period.  4. FIIN's strategic plan includes addressing ESG, including determining how the industry can best incorporate ESG. 

Social matters, specifically predatory lending practices, are relevant in consumer related finance. Consumer finance companies often access the securitization market to finance their consumer loans. Our investment process includes a thorough analysis of the loans and the overall business models to gain insight into the loan origination and servicing practices of the finance companies. In general, we favor businesses that employ fair risk-adjusted pricing, aim to provide needed goods and services, and/or help rebuild the credit history of the consumer. We shun business models that systematically engage in predatory lending activities or overly aggressive loan collection practices.

Environmental issues are generally not directly applicable to securitizations. Securitization involves lending to a diversified group of participants and does not typically offer the opportunity to be selective with regard to recipients. As a lender, we have no direct connection to, or influence over, the use of funds. 

12.3. Additional information.[OPTIONAL]


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