Measurement and Reporting

It’s no surprise that measurement and reporting formed a decent chunk of the conversation with participants.

If it was just a matter of determining whether a pool of assets satisfied a commonly accepted standard it would be relatively easy. But sustainability incorporates factors that go well beyond the pool and includes factors that, by their nature, require qualitative assessment rather than quantitative. Investors pride themselves on their ability to assess the quality of governance in the organisations they choose to invest in. This has been their bread and butter since securitisation began. But when it comes to social issues, they face challenges they may not have considered in the past. Not only do they need to make judgements about whether an issuer or originator meets their expected standards for things like employee relations and care, they also need to price these for risk. The growing focus on supply chain relationships, offshoring of processes and diversity in all its forms means they need to look beyond the parts of an issuer’s operation that deliver securitisation pools to how these impact on the sustainability profile of the companies they invest in. There are four key themes across participants’ discussion of the challenges of measurement and reporting: 1. The need for standards

2. Accreditation

3. Technicalities

4. The potential value of expertise

The Need for Standards

There is a unified call for industry standards, yet differing views on how they should be devised and who should be responsible for devising them. There is also a question mark about how far standards will go as so many of the potential measures are qualitative in nature.

There is a strong call for international standards, yet concern that there will be differences when it comes to Australian standards, as there is for US-based investors and issuers.

It is generally accepted that Europe has taken the lead. Local issuers are already being asked for the information that global investors have access to in Europe, as the Europeans have already established standards. The view is that global investors will have a significant impact on the standards developed in Australia simply because those standards are built into their mandates.

Adding to the challenge is a sense of urgency because participants foresee rapid growth in the sustainable sector. No one thinks it’s going to be easy. “There really isn't any kind of a general agreement at the moment in the market on how this is all supposed to work its way through the investment process. One asset manager’s criteria for identifying suitable investments can be different from other asset managers criteria for determining suitability.”

- Global Investor

“Each lender is doing the right thing in their own eyes, but you need to get investors comfortable with that approach. We really just have one chance to go right, so this needs to be collaborative across the investor and the issuer.”

- Local Bank

“We expect that definition of 'green' to become globally adopted because EU’s already talking to China about harmonising their taxonomy there. I know there's work in the background from some of the well-known 'green' certifiers to start harmonising their taxonomy.”

- Local Investor

“If you're talking global markets, you want international comparability. You know, it’s like having multiple languages but, if you have one language, it makes things a lot easier.”

- Service Provider

Accreditation

While there is general agreement on the need for standards and a broad acceptance that these standards should be globally compatible, there is less agreement on how the standards would be administered.

Some believe it should be up to the issuer to demonstrate compliance with the standards. Others see a role for third parties including certified accreditors or ratings agencies. Some mavericks even feel their own ability to determine compliance gives them a competitive advantage.

“I don't think it's going to be independent accreditation. I think what will happen is that the individual investors who buy these securitisation bonds are going to say: A is acceptable; B is acceptable; here is the standard we need to make for our board.”

- Global Investor “The development by the International Accounting Standards Board to set up a Sustainability Accounting Standards Board is a good step. Essentially, you've got standards in terms of ESG reporting and that it is audited, so at least you're starting to get data in sort of baby steps. You start to get data on ESG, starting with, obviously, E with the climate and the carbon outcomes from a company. A bit like financial reporting, you can then start to draw conclusions that are based on reasonable evidence. I think it’s early days. We’ve got to move much faster than we are. It's a bit like the Wild West at the moment.”

- Service Provider

Technicalities

If the issues raised by participants are the tip of the iceberg, once it gets down to a discussion of measurement, thousands of technical questions and issues are raised.

At a high level, participants recognise that many of the issues facing securitisation are the same as those affecting financial markets more broadly. They also suggest the measurement of sustainability is not just about assets but about activities and practices of the company delivering the asset. Many participants consider that what constitutes 'green' is a matter of opinion. One person’s 'green' can be another person’s black and more often simply grey.

“What if the company is a power generator and has a significant amount of its generation coming from coal, but they are in the process of transitioning to renewables? What's the correct assessment of that, what kind of a carbon environmental standpoint? Yes, it has got harmful elements, but they're actually transitioning to a more sustainable future and footing.”

- Local Investor

Measurement of the ‘Social’ component of a company’s ESG credentials is vexing for many participants. This is due to the difficulty of finding relevant data about an issuer and then making an assessment of the relative performance of the issuer in meeting social standards. The underlying problem is that issuers in Australia are exceptionally good at providing information about their pools, but when it comes to assessing their employee relations, customer relations, diversity, equality and other social measures they not only do not routinely provide these, but they can be difficult for investors to find. Several participants said they can find what they’re looking for on the issuer’s website, but every website is different and what is reported also depends on what’s collected and whether it’s included.

“The definitions around 'Social' are just exponentially more complex than the environmental stuff because, at the end of the day, you can reduce all environmental outcomes to emissions.”

- Local Investor

“'Social' is one of those ‘how do you measure it’ kind of things.”

- Service Provider Rigorous investors have always advocated visiting issuers and originators to look at their operations in action. This probably won’t change under a more formal reporting regime. But for investors who can’t visit or who simply want to assess, for example, the way originators look after their employees and their customers - what information will be accessible and will it be in a form that gives the investor confidence in the information supplied? Will the investor be able to use this information to determine the impact of what is provided on the quality of the pool? Some participants are already providing detailed information about the social fabric of their firm. However, in looking at what they are measuring or reporting on, it’s clear that there is a lot of work for an investor to sift through the data, find what they’re looking for and assess it. “Some key areas in ‘Social’ include wellbeing, diversity and inclusion, providing sustainable products and services, a safe environment and a safe workplace and equipping our leaders with what they need to be successful. These are areas of measurement, which we can use to show how we are improving. So, the measurement of gender equality, inclusion, equity, identity, and diversity, whether it's gender diversity, cultural diversity, age, and life stages, LGBTQI, disability, parents, cognitive diversity, diversity of thought, all of those things now are starting to be measured, which then can demonstrate how we actually continue to improve.”

- Service Provider

When it comes to pools, data for specific environmental factors can be difficult to source. For example, the vast majority of mortgages are existing houses for which energy data is rarely available and even when issuers want to report on it, they are relying on the borrower including the energy rating on their application form.

“I don't even know what energy rating my house might be. The Energy Star rating of all houses across Australia is probably less than two. So why would you even bother? No one's rushing out to go and get energy scored, which means you need to find another means to go and assess your pool data that has all of those energy efficient homes in there that are energy scored.”

- Local Investor

“How do we, as the issuer, go and effectively backfill data of tens of thousands, or hundreds of thousands of loans, to get ourselves comfortable that they meet 'green' requirements and then be able to report on them to investors or some other third party?”

- Local Bank

One local investor summed it up by saying:

“I think our preference would be to ultimately arrive at a more quantitative process, if that's possible.”

And it’s probably fair to suggest they are not alone. The key to moving to a more quantitative process is data and there are already moves by some issuers to prepare for the future need for more detailed sustainability related data. “I think we've got 12 or 13 additional data fields that we'll be adding into our end-of-month portfolio cuts, designed to support a 'green' and/or social bond program. Obviously, the decision we'll need then to make is whether we go and pull the loan files out and do the painful backfilling of those data points for previous loans, or whether we look at it on a go-forward basis.”

- Non Bank Issuer

Expertise

Not all participants have the resources to manage and manipulate data in the ways they believe will be necessary to both comply with standards or regulations and be competitive in the future. Several believe new skills and expertise will be required. There’s a degree of excitement about what might be possible in the future through a combination of technology and expertise.

“Using things like a distributed ledger and smart contracts in the future, you can really produce pretty fabulous reporting very quickly.”

- Service Provider

Ultimately, some participants are going to be comfortable using their own expertise and others will seek to outsource it. None are really expecting technology and systems to do it all. “The easy stuff is always going to be easy and systems and technology really only serve the stuff that's already easy. The complex stuff where you need to actually have an assessment or a review, that's where you need to have a bit of ingenuity around the raw data - where to find it and how to manipulate it. That’s where new skills will be required.”

- Local Investor

The one thing that everyone seems to agree on is that there will be an increasing demand for more transparent, detailed ESG reporting in the future and most are at least thinking about how they will satisfy that need.

“I know of an issuer who's working with a Europeanbased investor who is signatory to all sorts of sustainability principles for responsible investment and whatnot. This issuer is being asked so many detailed questions by the ESG team. If this is the trend going forward, I think Australian issuers should start up-skilling themselves to be able to answer questions from an ESG perspective, even though you're not doing ESG, because that's the additional due diligence that will be coming down.”

- Local Investor