A radical impact investing-style reorganisation of the emerging market debt portfolio of one of the largest Dutch pension funds, which reduced the number of countries it contained, has resulted in a significant outperformance of the fund’s benchmark, since 2019, Marcel Andringa, executive board member for asset and liability management at PME, the €50 billion fund, told AsianInvestor.
Following a decision by the fund to explore more sustainable investment approaches, PME’s shifted its strategy for the portfolio away from traditional index investing to a conviction-based approach that more closely resembles impact investing,
“PME introduced an emerging market debt index in 2019, removing 40% of the countries from its investment universe based on three criteria: corruption, climate policy and competitiveness,” he said, although he declined to reveal the level of outperformance of the new index.
“We wanted to integrate ESG criteria in our selection framework, to set minimum standards for investing in both developed and emerging markets.”
The restructuring of PME’s emerging market debt portfolio has provided a proof of concept for an approach the fund now plans to roll out across the entire portfolio. If the move is approved by its governing board in the autumn, the fund will roll out an equivalent approach across its entire portfolio.
Andringa said that it was likely that the fund would follow a similar approach for each of its regional bond equity and bond portfolios.
“It would be most logical to have separate portfolios for US equities, European equities and emerging markets. This is preferable because of the different characteristics of these markets. Also, in emerging markets, the data quality for screening is limited, so we would prefer a more focused and concentrated portfolio,” he said.
The outperformance of the EMD portfolio included significant individual gains. Global asset owners sustained significant losses on Russian bond and equity portfolios following the country’s invasion of Ukraine in March 2022.
But PME had divested from all Russian bonds in 2019, judging the country to be corrupt.
While transaction costs for the new portfolio are slightly higher, overall investment management costs are comparable to the 0.09 per cent for the whole portfolio in 2021.
As well as adhering to exclusions, which include a ban on oil and gas extraction sector put in place by PME in 2021, PME selected its investible universe by applying minimum threshold scores on ESG measures provided by MSCI.
A subset of bonds was then selected from this group, using PME’s own score on three themes: corruption, climate policy and competitiveness.
An additional screen introduced in 2022, resulted in four countries being removed from the investible universe on account of authoritarian governments (PME uses the definition of authoritarian governments provided by the Democracy index of Transparency International). PME then handed its selected universe over to its bond managers who – as in the case of its equities portfolio – are primarily passive.
“PME chose this approach because we believe we have a moral obligation and because we believe countries that score high on the Democracy Index and which have adaptive climate policies will outperform other countries,” said Andringa.
In April, Daan Spaargaren, head of responsible investment at the fund, told AsianInvestor that traditional ESG ratings frameworks were insufficient to build sustainable portfolios, and challenged the principle that an ESG scoring model that rewards companies good in some areas but bad in others was a suitable approach.
“With traditional ESG scores, sectors like mining, which in social and environmental terms are poor, but have a high governance score, have a very good chance of being included in an ESG portfolio. That is strange and unwanted,” he said.
“[If scoring] doesn’t work to exclude some products or services that are unethical, it is wishful thinking that you will end up with a sustainable portfolio.”