UBS Asset Management SI Passive
Podcast 3 - transcript


0:06
Hello and welcome to this UBS Asset Management Investing In Progress Innovation Stories podcast. All information contained within this recording is subject to a disclaimer at the end of this podcast. Please ensure that you listen to the disclaimer and go to www.ubs.com For further information about UBS.

0:27
Welcome, everyone, and thank you a lot for joining this discussion about sustainable investing in the passive fixed income space. I'm Philippe Kybourg and I work in the ETF and index fund investment analytics team here at UBS. Today I'm joined by Matthias Dettwiler, who's the head of Switzerland and index fixed income at UBS Asset Management as well. 

Welcome, Matthias. Thank you Philippe..

0:52
So let's kick it off by talking about the differences between equity and fixed income when we talk about sustainable investing. So I think it's fair to say equity has a longer history in sustainable investing compared to fixed income. However, we really see the adoption of fixed income ESG solutions catching up.

1:14
But if we look at the specificities of the fixed income asset class, can you maybe tell us how it actually impacts the integration of ESG criteria?

1:25
Thank you, Philippe. Yes, if you think about the equity world, you have one stock of one company, and it's listed on one exchange normally. On the fixed income side, you have the same company, a lot of entities of that company in different countries, different bonds outstanding, different currencies with different characteristics. Long bonds, short bonds, certain currencies, and other dimensions. This brings an element into play, which is relevant for fixed income portfolio management, but it's mostly not relevant for the SI part. Because for the SI part , the market weight percentage, so the weight how much you invest into security is still the key.element. And that's, kind of, that's an element which needs to be incorporated into this workflow.

2:12
Yeah, I can only echo with what you just said. These dimensions really add a layer of complexity compared to equity solutions, and that's why choosing the right index here is key. So that's where for example, we try to support our clients to really find the right index, which will help them to meet their ESG objectives. But let's maybe focus once again on these different dimensions. We know that you manage all these points as part of your stratified sampling approach. Can you maybe elaborate on this a bit more? 

Yeah, absolutely. So stratified sampling, you need to imagine is not much different than the opposite of full replication. And full replication means you buy every security that's in the index, the same weight as was in your portfolio. In fixed income, that's normally not practical, but maybe it was sensible in our eyes. And why I'm saying not sensible is simply because the transaction costs in the fixed income world are still relatively high compared to, let's say, equity or other markets. So you need to be really conscious and careful what you trade, how much you trade, how much turnover you generate. So therefore, you really want to kind of sample the portfolio in a way that you know that you don't need to touch the portfolio too often, we start to just ending up in a lot of costs. 

All right, so if I summarise what you just said, it's basically try to minimise the transaction costs while also managing the tracking error. But this must have quite an impact when you select a sustainable investing solution in the index fixed income space, right?

 Yes, if you add on top of the usual, let's say tasks, you have to manage a portfolio, the SI elements, so let's make a simple example, you want to reduce co2 emissions. You need to incorporate that in your processes as well. It's just another element or another filter you want to apply. And as with everything, it's irrelevant, whether it's an SI overlay on any other overlay, it has an impact and you want to kind of make sure that you kind of manage that well and your turnover doesn't increase substantially. So again, it's absolutely doable, but it's just another element. You need to really incorporate in your in your process.

4:31
Yeah, no, I think that's really a key point you highlight here because as you said, it will have really an impact on the type of ESG indices that you will track in the index, fixed income space, 

so Philippe, whilst we are on the topic about indies and index selections. You're working in the analytics team and you're kind of like in the in the centre of all the client feedbacks, which you get across, across the world. Can you elaborate a bit more? What's the kind of solutions you think, are nowadays available from an index point of view? 

Yes, thanks for the question. I think they are off the shelf solutions. available out there. But in most cases, this will not be sufficient to fit the needs of our clients. Therefore, we really need to focus on customization and trying to develop new solutions that will better fit their ESG agenda or their financial objectives more generally.

5:24
That's why we have a strong working relationship with your team but also with all the other stakeholders in the value chain. If we want to focus maybe on the ETF space, that's really an area where we foster that, we really try to innovate and find maybe new market segments that clients are  looking for.

5:44
In terms of innovation, we focus on three pillars. First liquidity, which is key, as you said before, but also looking at diversification and last but not least, looking at ESG incorporation.

6:00
But maybe looking about this topic a bit more. Can you maybe explain how do we select and assess the right index we use in our solutions?

6:10
It's actually not that easy anymore nowadays. And let me actually start with an analogy right? If you think about the person who comes into a coffee shop and just ordered a coffee, but then actually instead of getting a coffee getting asked many, many questions, what beans, which country, how dark,how much mil,k which milk and the poor person just does not really get that coffee the person wants and it's a little bit the same challenge we face by now where clients can express their views and ideas pretty well. But then it's hard to find the matching opposite index.

 As you've heard on the other podcast, kind of more than 3 million indices is available by now. And the option to actually customise almost everything nowadays. It's almost like too much choice. So that's where we step in, kind of, we collaborate with index providers, which is an element we would probably have started doing 10 years ago, but not 20 years ago. 
Instead of taking off the shelf indices which they produced, we actually engage with them. We tailor make the index. And with that actually we get the exact results to clients in the end wants. So it's not really off the shelf, but it's still kind of offered from the very well known index providers.

 Now that's a key point because indeed picking an off the shelf index is not sufficient anymore as we discussed.
 So Philippe, while we are in collaboration, instead of just index providers. You're in the epicentre of all the collaboration happening when, let's say new products are launched. Tell us a bit gow does that work nowadays with all those various teams from the SRA team to the ETF team, to the institutional team to the compliance and legal teams, investment teams, how does that really work together? And because of the complexity, can you elaborate a bit on that? 

Yeah, that's a good question. I think it's maybe obvious that we have to involve your team in order to see which solutions are feasible and which index can be replicated. Then of course, we work with products in order to find the right investment vehicle, and to try to then implement the solutions. But on our side, I think our goal is to try to function as a feedback loop with what we hear in client discussions. So really try to discuss with clients, what are key topics for them, what features of the indices are more relevant than others, and then try to feed that back into the index development process. You mentioned the sustainable investing team, ttheir role will more be to look at EA topics more holistically. So I think their role is key here.

8:51
They might function, if I can call it like this, as a think tank about ESG and they will help us to maybe look at ESG topics more broadly when we talk about methodology, or also, maybe about governance. One of their other key function is to drive our stewardship and engagement programmes and there I wanted to discuss with you to talk about these activities as a consideration also for fixed income indexed investors. Can you maybe tell us why it's important?

9:28
Absolutely. It has been quite a ride, I would say, in the recent years when it comes to that topic a few years back if you would have said engagement in fixed income indexing, most people would have probably said that's not really relevant or kind of that's a waste of time. To be really bluntly honest.

 I think nowadays that has really changed. It is critical that our analysts and when I speak about analysts, I mean the credit research analysts, so the fixed income part, equity analysts, but also the SI analysts as you elaborated, those three together engage with the C-suite of the companies, so the CFO  of the world and the CEOs. And you can imagine that it's just much more powerful if you actually sit opposite those counterparties talking about the full balance sheet, rather than just one part of it.

Obviously you don't have a voting right, like in equity, which makes it a bit harder. But again, the engagement actually happens across the full firm. And it is actually pretty powerful. We've seen good examples in that. And how does that trickle to fixed income indexing? Again, in the active space, it's a bit easier because you can start to overweight and underweight or eexclud easier.  In the fixed income indexing space we have  fiduciary duties to track an index and follow the rules the client defines. But nevertheless, clients can opine and  kind of opt in if they want to follow certain engagement processes we offer also in the indexing space, so if we have unsuccessful engagements, by definition, we don't exclude those names, but if a client wishes to, we also would do that on the indexing part, so it has definitely taken a big step forward in that evolution when it comes to engagement and stewardship.

11:10
Absolutely, I agree that engagement and stewardship is also now key on the fixed income side. Let's maybe now move on to solutions. So there are different types of approaches to indexed fixed income investing out there, but can you maybe give us or elaborate on the evolution of the ESG integration into index? Fixed Income Solution? Yeah, in the past, most clients were actually used to exclusion lists. 10 years plus back those exclusion lists may have been a dozen or a couple of 1000s of names. By now those lists have extended in some cases, we get to pages long exclusion lists. And with that, I think complexity has increased because it has not become easier or it has not become obvious. What actually the risks you take, if you have such long exclusion list. And point two is with exclusions. A lot of investors have realised if you include it, you can't really engage anymore with the companies. But also you can actually not really support the companies in change. And that's the thing, a mental shift, which happens in recent years, where if you stay invested, you may still underweight it but if you stay invested, you engage and the companies actually are really holding up to their targets and changing and become better. You actually make a bigger difference and the bigger impact and I think that's where nowadays we have a lot of clients who actually want to come away from exclusion lists, definitely you build some of those into the rules of the pieces, but at the same time, work more with us on the engagement and stewardship side, and on the underweighting/ overweighting rather than just simply excluding.

12:53
I agree, we really see an evolution in which key ESG issues are relevant for our client. It's also interesting to look at, for example, climate, so when we launched our first fixed income ETF, which integrated ESG back in 2015, climate was really not at the forefront of their agenda. But now we really see that climate is at the top of it.

13:18
Speaking about climate, do you also have index like approaches besides the more traditional indexing solutions we spoke about? Yes, we do. And the main reason we do is, although you can replicate a lot by now with customised indicies, still you cannot do 100%. Where clients actually want us to replicate a certain index with a judgmental overlay. We implement that by having the right index. But then on top of it, we have a process around those things which cannot be replicated in an index, and climate  is a good example. There's not so much standardisation yet in the market, that you can just take an off the shelf CTB or PAB aligned index and say this fits actually most clients. It's an interesting topic because actually it's probably the area where most clients have their own opinion, their own interpretation. And even the political bodies like the government's are not clear yet how are they actually going to really implement climate solutions so therefore, he needs a bit more of those judgmental calls in the end and that's where we offer rule based solutions as well.

14:24
Also, another aspect that was mentioned by Borianna in the first episode of the series is that this rules based approach allows you more flexibility in the underlying data sets you use. So I found that it was also quite insightful to hear about that in this first episode.

14:43
And maybe then to talk about the strategies and which vehicles are used to implement those. Can you maybe elaborate at UBS what kind of vehicles are used for index fixed income solutions?

Indeed, so when it comes to the products used, I think the world has moved away from being very stereotype of, let's say, institutional clients using institutional funds, wholesale clients using ETFs, this is much more blurred by now. I think we've moved on to the point where whatever product format may fit for whatever specific situation for a client may be other tactical or strategic allocations. We now see very, very large institutional clients using ETFs. And vice versa. We see wholesale clients using institutional funds to some degree where possible, simply because it's the best fit for that solution. So I think we're not so much focused on it must be an ETF or it must be an institutional fund for those clients. It's really more what is covering the client needs best nowadays.

Matthias. I think I couldn't have closed this podcast better thank you very much for joining me today. Thank you for our listeners to tuning in. And if you're interested in for more content, like this one, please listen to the other episodes of this innovation series.

16:18
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16:32
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