November 12, 2021

Applying ESG Factors to Government Bond Indices

There is a continuing philosophical debate about how best to apply an ESG investment approach to global sovereign debt portfolio, evidence of which is the relative lack of ESG Government Bond indices in the market.

ESG integration in a global sovereign index presents significant challenges, not least in a developed markets bond portfolio, where issuers’ ESG scores can be clustered together. This paper shows there are trade-offs between Active Share, ESG performance and tracking error that need to be addressed if investors are seeking to achieve meaningful ESG improvements versus an underlying benchmark.

The innovative approach taken by the FTSE ESG WGBI is to apply the factor tilting methodology of the FTSE Global Factor Index series. This approach takes country-specific Economic, Social and Government values, derived from Beyond Ratings’ Sovereign Risk Monitor, and treats these pillars as factor exposures.