To accommodate a growing demand for sustainable investments, fund managers are increasingly exploring the use of environmental, social and governance (ESG) criteria across various asset classes. But the adoption of ESG metrics in stock selection requires a different approach when it comes to bonds.

"Often the market information that's out there today from providers is at the equity holding company, that's where ESG rankings are provided.

Now there are many cases where the bond issuer can be a completely different subsidiary," says Travis Spence, head of fixed income investment at J.P. Morgan Asset Management.

Travis adds that a unit may have a completely different holding company structure, which means "the liabilities may be from one side where the ESG rank can be quite low or is not really the same".

ESG scores from third party providers are usually given to the parent company or the holding company. But often the ESG profile of an issuing subsidiary can be different from that of the parent company.

Investors often look for relative value as well as momentum relative to peers. But the approach to determining relative value in fixed income requires additional research and assessment.

"So you might have a bond issuer in a conglomerate which is in a completely different industry. And we need to be looking at the peer comparison within that industry. So we start with the bondholder and then we map back to the ESG score as an input," says Spence, detailing how ESG factors are assessed.

"Where it is material we embed that (mapping approach) into our analysis of a company, in our analysis of the pricing. That really defines our integration approach," he adds.

Spence stresses the importance of tracing back ESG factors from a holding company to the issuing subsidiary to arrive at a correct assessment of the risk.

"The mapping is a really important point because it highlights one of the things that bond investors need to be aware of. If we're mapping it correctly and we're looking at the right peer group, we're then able to make the right comparison of relative value and whether those risks are being priced in or out," Spence says.

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