Sustainability Cambridge - April 2022

The challenge of investing sustainably in sovereign debt markets

Investors struggle to influence sustainability in the trillion-dollar sovereign debt market. There is little evidence to suggest sustainability is important when it comes to pricing sovereign issuance, and investors that do prioritise sustainable sovereign investment are not sending a particularly strong message to the market, said expert panellists speaking at Sustainability in Practice at the University of Cambridge.

Moreover, many UK pension funds will continue to invest in UK sovereign debt to match their liabilities even if the country goes off track with its transition to net zero, said Will Martindale, group head of sustainability at Cardano, the pensions advisory and investment specialist which manages over £15 billion in DC assets across the UK and the Netherlands including operating the United Kingdom’s NOW: Pensions.

Martindale noted little attempt from sovereign governments to issue social bonds or bonds linked to sustainable KPIs, while fellow panellist Ella Hoxha, senior investment manager, global bonds at Pictet Asset Management (as pictured above), said there are inherent complexities for investors when it comes to “telling governments what to do” particularly in markets governed by undemocratic regimes or where sustainability has little traction.

Despite the challenges, panellists outlined the steps they are taking. Investors can invest in sovereigns that have committed to cutting emissions and meeting the Paris goals. “Investors can look at signatories to the Paris agreement; you can be an active allocator of capital on this basis,” Hoxha told delegates.

In developed markets this will incur a European bias and exclude the US, which will come in and out of sovereign debt portfolios depending on the US administration’s progress and commitment to lowering emissions. “This is a bias you can manage,” she said. Regarding the European bias, forming objective decisions on the different sustainable paths of, say, Germany and France is challenging for investors.

Understanding policy

Trying to understand sovereign sustainability policy exposes many complications. For example, emissions in Brazil could fall but on the policy side commitment to lower emissions or protect the Amazon remain weak. “The nuance behind the policy is important,” said Hoxha. She also noted that incumbent governments will prioritise elections over climate policy and that during elections, sustainable commitments may slip. She noted the importance of looking to governments future policies, a pertinent point in growing economies where GDP is rising and emissions creeping up. “We like to see an improvement in emissions for GDP reflected in policy,” she said.


Accurately measuring sovereign emissions is another minefield for pension schemes. For example, investors need to consider whether they count state-owned companies only, or if they should count emissions of the country as a whole. Should they include a country’s exports and Scope 3 emissions, or just look at the issued debt of an economy?

Martindale added that when investors try and measure social issues in their sovereign sustainability calculations it gets even more complicated – particularly when policies run counter to factors going into that measurement like the United Kingdom’s 2021 decision to cut overseas aid.

Measuring commitments has also been complicated by war in Ukraine where Hoxha noted the resulting energy crisis will impact sovereign net zero pledges, many of which are now optimistic. Although on one hand governments need for energy security away from Russia will speed up investment in green energy, in the short-term, reliance on fossil fuels will grow. She also questioned investors ability to influence policy.  “The transition will take longer than we assume,” she said.

Counselling a realistic and practical approach, Hoxha said investors should look at sovereign policies, set their metrics and then “draw a line.” She added that investors are “not NGOs” and need to balance generating returns with prioritising sustainability.

The future

“We have more barriers than solutions,” concluded Martindale who also noted that investing in higher impact, sustainable sovereign assets can incur higher fees, liquidity issues and requires the support of trustees.

However, although engagement with sovereigns is still in its infancy the size of the government debt market means it will have a significant role to play in achieving the transition. Martindale also outlined his believe in the power of collaborative engagement to influence frameworks, policy, and behaviour.  Positively, sovereign sustainability could also become more of an investor focus given the challenging macro backdrop for fixed income as interest rates and inflation rise.


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