The recent COP26 conference in Glasgow demonstrated the difficulty in creating consensus across political divides even when faced with an existential threat of the magnitude of climate change. But while politicians may have struggled to put together a coherent decarbonisation plan, business is increasingly taking a lead on driving towards net zero.
It was with that in mind that Fitch Ratings recently held an event introducing treasurers to the new Fitch ESG Ratings venture, Sustainable Fitch. Held in central London, the event brought together treasurers from a range of blue chip UK businesses to meet with Andrew Steel and his team. As global head of sustainable finance at Fitch Ratings, Steel heads up the new venture, which is designed to deliver a major product offering to sit alongside the current credit ratings model.
Steel explained that although Fitch already integrates environmental, social and governance (ESG) factors into its existing credit ratings, they represent a pure credit view based solely on the ratings case forecasts.
“I explain to people that just because you are a renewable energy generator, it doesn’t necessarily convey an automatic credit benefit; it does if you have a priority of dispatch in the merit order and a feed-in tariff that gives you security of revenue. But without any of those structural factors, then from a credit perspective you’re potentially in worse shape than a coal-fired power station.”
But that is set to change. “Our ESG Ratings framework has been developed over the past two years – it’s been built from the bottom up for the investment community and we’ve consulted a lot with asset managers and other market participants,” Steel told the guests.
Sustainable Fitch has built a standalone framework to better assess the ESG credentials of an entity and its debt instruments. The framework has the capability of going through the entire debt of an entity and providing an ESG view on each piece of debt in the context of the entity that has issued it.
“And what that does is create a full data set on a comparable scale across the entire market. So you can compare a conventional bond from, say, a telco with a green bond from an oil and gas company, and a social bond from a bank,” Steel said.
And that, he explained, opens up the portfolios that investors can pursue, while at the same time neutralising some of the reporting disadvantages those issuers mandated to follow a pure ESG strategy may suffer. “Hopefully, investors will see their investible ESG universe expand significantly because they won’t have to exclude certain investments due to a lack of ESG information to report on.”
Steel explained that every ESG rating is monitored and maintained. And in order to build on that, Fitch has employed and trained more than 25 specialist analysts so far and is aiming to add another 50 early next year in order to continue to build out coverage.
The whole ESG analysis framework is modular, because feedback from investors showed that each investor had a slightly different focus – some are interested in basic screening of sectors, some want to drill down into specific activities at an entity level or even at an individual bond level, and so on.
“It varies hugely and we’ve deliberately built a framework where not only do we have an overall rating of 1–5, but also we provide subgrades, qualitative commentary and data sets at a level of detail that investors really need, for example, down to a level of an individual score for supply chain risk management from a social perspective.”
And issuers will benefit from that granularity, too – they can benchmark themselves using these ESG ratings to drill into their specific strengths and weaknesses.
“Investors want transparent, cross-comparable ESG ratings that look beyond labelling or targets to assess ESG fundamentals,” Steel added. “Sustainable Fitch will provide investors with best-in-class ESG Ratings, supported by data and analysis backed by the key tenets of consistency, transparency, comparability, coverage and granularity.”
Sustainable Fitch’s new ESG Ratings sit alongside the credit rating foundation of ESG-integrated credit research and analysis via existing ESG Relevance Scores, and Fitch’s 2 degrees scenario climate risk assessment through its existing Climate Vulnerability Scores.
The new service will offer investors pure ESG analysis and reports at an entity, framework and instrument level via the new ESG Ratings, while at the same time offering the usual ongoing sector and thematic ESG research.
The discussion was held as COP26 rumbled on in the background. And with governments struggling to agree on a comprehensive policy to limit global warming to 1.5ºC, there was a sense of determination around the table that business – both on the corporate and investment side – can play a pivotal role in driving better behaviour as well as supporting the push towards the wholesale decarbonisation of the global economy.
“We feel absolutely sure that despite the challenges, we face a more enlightened approach from business and – coupled with genuine commitment from governments – can make a genuine impact on the road to net zero,” Steel said.
“We know that politicians can shy away from difficult decisions as they focus on their own short-term targets and pledges,” he added. “But we feel that by developing bespoke and truly integrated ESG research and ratings we can help investors take a more integrated longer-term view on what sectors and businesses are leading the way and driving this agenda, and therefore should be supported.”
Steel reported that for many institutions it still remains difficult for them to understand what they should be reporting, especially when it comes to granular information on things such as the carbon footprint of their portfolio companies. “How you solve for that without creating a very expensive ecosystem of intermediaries, and complex disclosure requirements that make it cost prohibitive, is a real challenge.”
But there were reasons for hope, Steel concluded, outlining Fitch’s determination to help provide the right information to drive better decisions and play a supportive role in the drive towards a low-carbon future.
“We recognise that for treasurers the issue is clear – this goes beyond simply pleasing shareholders and hitting quarterly earnings targets: it encompasses a wide range of stakeholders. As treasurers, you are the ones who will take action in the future to provide the financial community that invests in business with the right information that will ultimately drive global change.”
