What role will climate change have on the pricing of government bonds?

Sponsored article: Kerry Duffain finds that “vulnerability and resilience to climate change” have a significant impact on the cost of government borrowing.

Ardea Investment Management invests predominantly in government bonds where there has historically been less scope for stakeholder engagement than has been the case in other asset classes such as equities, corporate bonds, private equity, real estate etc.

Additionally, the UN backed PRI and the literature provide little guidance as to how investors in government bond markets should incorporate the principles into their investment process.

However, it is becoming increasingly clear that ESG megatrends like climate change are, and will be, impacting the yield on government bonds either through investors penalising governments who are not seen to be doing their part, or through the impact climate change will have on an economy directly or indirectly through carbon tariffs.

The UN backed PRI states that “despite its size and importance, the sovereign debt market has been the subject of less systematic environmental, social and governance (ESG) consideration than other investment asset classes.”

Systemic risk

To fill this void, Ardea has been conducting its own research in partnership with the University of Technology Sydney on ESG risks, with a focus on climate change, as this is a mega-trend that Ardea sees as most relevant to the government bond market.

Ardea is investigating the role that climate change has had, and will have, on the pricing of government bonds given that Ardea sees this as posing the greatest potential risk to its return profile.

Climate change is already a systemic risk to the global economy and while there is a large body of literature documenting potential economic consequences, there is scarcely any research on the link between climate change and sovereign risk.

Ardea has therefore investigated the impact of climate change vulnerability and resilience on sovereign bond yields and spreads in 98 advanced and developing countries, and found that the vulnerability and resilience to climate change have a significant impact on the cost of government borrowing.

To supplement this research, Ardea also consults with asset consultants, research houses and with its clients, and it is this research and client input that drives the evolution of Ardea’s ESG policy.

Ardea is focussed on the role that climate change has had on government bond yields historically, event studies to understand how climate change news may impact yields and building a framework for understanding how climate risks in the future may impact the pricing of sovereign bonds.

Kerry Duffain, Institutional Client Solutions, UK, Fidante Partners.
If you would like to find out more, please contact Kerry Duffain. Email: kduffain@fidante.com

Photo by Markus Spiske on Unsplash