Investors are increasingly integrating ESG policies into their securities lending programs, according to State Street Global Markets.
State Street Global Markets recently announced it has established an ESG-aware commingled cash collateral reinvestment strategy for clients of its agency lending program.
The Agency Lending team of State Street Global Markets has partnered with State Street Global Advisors to provide securities lending clients with a commingled cash collateral reinvestment strategy that follows short-term investment guidelines and uses SSGA's R-Factor proprietary ESG scoring system as a component in making its investment decisions.
The product is only open to US clients at the moment, using an already established short term pooled fund that was redesigned to include ESG criteria using the R-Factor approach. State Street will also look to develop a similar solution in EMEA and Asia Pacific, including Australia.
"We will also launch a registered version of the fund so that US mutual fund clients will be able to use it," says Jansen Chua, head of Securities Finance Asia Pacific at State Street. "The final phase will be to expand to customers outside of the US. We are having conversations, but we do need to be mindful of the domicile rules about which investors can use which vehicles, which introduces complexities for our non-US clients."
The development of the ESG product is designed to fit in with a broader range of questions from clients regarding how ESG policies get integrated into agency lending programs.
"Other questions we're seeing relating to ESG and lending includes the question of whether investors should be involved in securities lending at all," Chua says. "Especially with some of the recent market events around hedge funds (eg Gamestop), investors are asking themselves whether securities lending and short selling facilitates that volatility, and whether these activities are an important part of the governance of ESG programs? My sense is that opinion is split."
During the initial phase of the COVID-19 pandemic, some State Street clients suspended their securities lending programs over concerns that global markets were moving with too much volatility, and shorting was contributing to that volatility.
"Our experience is that we did have lending clients suspend their lending program during the first quarter, second quarter of last year over COVID-19," Chua says. "Most if not all have re-entered the lending program, and the belief is that lending is congruent with their view of ethical investing."
Securities lending arrangements permits the beneficial owner of a security to lend it for a specified period of time, with the borrower agreeing to return an equivalent security at the end of the period. Securities lending agreements are indemnified with high quality collateral. Beneficial owners use securities lending programs to generate incremental income to a portfolio, and securities lending can be used as part of various strategies, including shorting, hedging and arbitrage.
This State Street solution will integrate ESG considerations into that investment income derived from reinvestment of cash collateral.
The process uses SSGA's R-Factor approach to determine which securities in short term money markets meet ESG criteria, Chua says.
"They're looking at things like commercial paper, sovereign debt and corporate debt and then applying the ESG scores," Chua says. "This is where we get an investible set. The other thing they do is screen out controversial issues at the start to eliminate them."