- Tracking the changes in a corporate bond portfolio’s carbon emissions over time can be challenging given these changes may be driven by climate-related factors, as well as portfolio rebalancing and financial variables.
- Fixed-income securities are exposed to many events that may affect a corporate-bond portfolio and its emissions, including default, maturity, redemption, credit rating changes and an issuer or creditor exercising options.
- Determining the ownership structure is key for attribution analysis and can help ensure that high-emitting assets that are taken off the public market can still often be accounted for via its parent company.
Tracking a portfolio’s emissions over time is critical to assessing the success of climate-aware investment strategies. As we detail in our portfolio carbon attribution framework, in addition to climate-related variables, non-climate-related factors, such as portfolio rebalancing, also drive portfolio-level emission changes. In this blog, we highlight these different drivers of change and assess their impact on emissions using a hypothetical corporate bond portfolio. We then take the analysis further using two hypothetical climate-aware corporate bond portfolios to assess how differently these variables played out for strategies that are more climate focused.
The challenges for corporate bond investors
Corporate debt securities have many unique features that may make carbon-emission attribution at a portfolio level challenging. Events such as default, maturity, redemption and option exercise by the issuer or creditors can change the emission profile of the portfolio. A prevalence of private issuers is another hurdle, as getting emissions or fundamental data for these companies is often more difficult due to a lack of disclosure. Where possible, referring to the publicly-traded parent of these issuers may be one way to help solve the problem of data availability and have the private subsidiaries of public companies properly accounted for.
Emissions attribution in practice
To illustrate this, we examined changes in scope 1 financed emissions for a hypothetical corporate-bond portfolio comprising companies in the MSCI USD HY Corporate Bond Index over the three years that ended on Jan. 31, 2023. By using the topmost parent company data, the sample portfolio’s emissions-data coverage increased from 40% to 99%.
Untangling changes in financed emissions of a corporate-bond portfolio
Data for the period Jan. 31, 2020, to Jan. 31, 2023, for a hypothetical portfolio based on constituents of the MSCI USD HY Corporate Bond Index. Source: MSCI ESG Research
Portfolio-level financed emissions declined by 31.19% overall during the three-year period. Looking further into this, we can note the following:
- Issuers added to the portfolio from rebalancing increased its financed emissions by 9.18%, while issuers divested from the portfolio lowered emissions by 27.59%.
- Of the 27.59% decline due to divested issuers, 12.35% was from positions sold, 9.88% from securities called, 2.73% from securities converted or exchanged and 1.07% related to defaults. Note that the divested positions category does not include positions that matured and were replaced with another issuance by the same issuer.
- Issuers who remained in the portfolio during the entire study period contributed 12.78% to the reduction of the portfolio’s financed emissions.
- The actual company-level emissions of these issuers, however, increased the portfolio’s emissions by 7.73%.
- A change in the attribution factor in existing issuers contributed 12.83% of the emission decline, where 10.48% was due to decreased financing share of the portfolio positions in the total debt outstanding of the issuers and 5.05% due to a shift on average to more equity in the underlying issuers’ financing structure.1
Applying the analysis to climate-aware corporate-bond portfolios
Next, we looked at the financed emissions over the same three-year period for two other hypothetical portfolios based on the constituents of two climate-focused benchmarks, the MSCI USD HY Climate Change Corporate Bond and MSCI USD HY Paris Aligned Corporate Bond Indexes, whose parent index is the MSCI USD HY Corporate Bond Index.
Attributing financed emissions for climate-aware corporate bond portfolios
Data for the period Jan. 31, 2020, to Jan. 31, 2023, for hypothetical portfolios based on constituents of the MSCI USD HY Climate Change Corporate Bond and MSCI USD HY Paris Aligned Corporate Bond Indexes. Source: MSCI ESG Research
A comparison of the three portfolios
Data for the period Jan. 31, 2020, to Jan. 31, 2023, for hypothetical portfolios based on constituents of the MSCI USD HY Corporate Bond, MSCI USD HY Climate Change Corporate Bond and MSCI USD HY Paris Aligned Corporate Bond Indexes. Source: MSCI ESG Research
- The portfolios based on constituents of the MSCI USD HY Climate Change Corporate Bond and MSCI USD HY Climate Paris Aligned Corporate Bond Indexes both had less than half of the financed emissions of the portfolio based on constituents of the parent index, the MSCI USD HY Corporate Bond Index.
- The financed emissions of the two climate-aware portfolios at the beginning of the period were broadly comparable at 65.1 megatons for the portfolio based on the MSCI USD HY Climate Change Corporate Bond Index and 69.3 megatons for the portfolio based on the MSCI USD HY Climate Paris Aligned Corporate Bond Index.
- The actual emissions at the company level, i.e., not driven by portfolio rebalancing or financial variables, increased by 7.73% for the portfolio based on the MSCI USD HY Corporate Bond Index, by 1.11% for the one based on the MSCI USD HY Climate Change Corporate Bond Index and decreased by 4.35% for the one based on the MSCI USD HY Climate Paris Aligned Corporate Bond Index.
- The portfolio based on the constituents of the MSCI USD HY Paris Aligned Corporate Bond Index made more progress toward decarbonization than the one based on the MSCI USD HY Climate Change Corporate Bond Index.
A framework for greater clarity
Corporate bonds have many unique features that can make it difficult to attribute their impact on a portfolio’s carbon footprint over time. With so many drivers at play, including climate-related factors, portfolio rebalancing and financial variables, the attribution framework proposed in this blog may be one way to help disentangle those effects as investors seek greater clarity into their climate-aware strategies.
1Attribution factor is defined as the ratio of book value of the bond to the issuer’s enterprise value including cash (EVIC); financing share is defined as the ratio of book value of the bond to the book value of the total debt outstanding; financing structure is defined as the ratio of book value of total debt outstanding to the issuer’s EVIC, as per the Global GHG Accounting and Reporting Standard for the Financial Industry by Partnership for Carbon Accounting Financial Standard (PCAF).
Further Reading
A Framework for Attributing Changes in Portfolio Carbon Footprint
Connecting Emissions Attribution with Climate Action
Measuring Climate Impact with Total-Portfolio Carbon Footprinting