Sustainable, Responsible &/or ESG Policy:

Investment objective

The Fund aims to achieve a positive total return over a 3 year period whilst maintaining an annualized volatility of no more than 3%. Additionally, the Fund has a sustainable investment objective within the meaning of Article 9 of the EU’s SFDR which consists of investing in securities of issuers that contribute towards the Paris Agreement’s goal to hold the increase in the global average temperature to below 2°C above preindustrial levels.

The Fund is actively managed and predominantly invests in sustainable investments. These underlying sustainable investments’ objectives are “climate change mitigation” and “climate change adaptation”; the Fund may also invest in sustainable investments with a social objective, namely “empowerment”. The portfolio managers will seek to avoid investments in companies with material production in tobacco, alcohol, gambling, adult entertainment, controversial weapons and carbon intensive industries, and companies involved in animal testing for cosmetic purposes. This list is not exhaustive and may change from time to time to reflect new developments and research in the field of sustainable investment. The Fund has not designated a reference benchmark for the purpose of attaining the sustainable investment objective.

Firm wide ESG integration

 Our ESG integration approach ensures that all ESG factors are taken into every investment decision across all our strategies. At the highest level, the Fund integrates sustainability risks and promotes environmental and social characteristics initially through the use of ESG scores and metrics within Observatory. Issuers will be screened in accordance with the portfolio managers’ view of appropriate sustainability parameters as measured in the proprietary Environmental (“E”) and Social (“S”) scoring model. Additionally, the Fund will avoid investments in issuers involved in certain economic activities that are harmful to society and the environment.

This enables the Fund to promote environmental and social characteristics by excluding issuers who do not meet or conform to our minimum sustainability requirements. ESG scores are sourced from the Asset4 ESG database from Refinitiv and the portfolio managers themselves. Depending on our interaction with a company or our knowledge of industry trends we are able to adjust scores as appropriate. For instance, the portfolio managers have the ability to overwrite scores and reward issuers with improving ESG metrics and punish those with deteriorating ESG metrics.

Our integration approach also places a large significance on engagements. Engagement is an investor’s willingness to actively interact with companies, regulators or government bodies on behalf of their clients. We engage with all existing and potential issuers when we feel it is necessary and appropriate to analyse environmental and social characteristics in further detail. We measure the success of engagements by formally recording what we want the outcome of any engagement to be prior to engaging, then comparing that to the actual outcome after engagement. In rare cases where we feel that our engagements have not worked in the way in which we intended, we would take additional actions to address specific sustainability risks. Typically, this would include actions such as writing a public blog related to the topic, exiting the position, reducing the position, or by not participating in a refinancing.

Sustainability ESG screens

In addition to the firmwide ESG integration framework, the Sustainable Short Term Bond Income Fund differentiates from the original flagship Absolute Return Credit Fund by applying positive and negative ESG screens to its investment universe which seeks to reward and target companies with sound ESG and sustainability practices.

The Sustainable Short Term Bond Income Fund then makes use of an ESG overlay, with both negative and positive screens.

Firstly, the Fund will negatively screen companies with a material production in a number of ‘sin’ sectors including but not limited to tobacco, alcohol, carbon intensive industries and companies involved within animal testing for cosmetic purposes. Please note, we define ‘material production’ as meaning sources of revenue greater than 5%.

The fund will negatively screen companies with material production* in the following sectors:

• Tobacco
• Alcohol
• Gambling
• Adult Entertainment
• Weapons
• Coal Intensive Industries
• Animal Testing For Cosmetic Purposes
• UN Global Compact Violators

A further negative screen is applied which explicitly excludes corporates from countries with poor ESG practices. Within the ESG module within our proprietary relative value system, Observatory, we have developed a proprietary scoring system which enables us to exclude countries scoring 50 or below (based on adjusted GDP per capita). This involves metrics such as but not limited to air pollution, renewable energy, child labour, legal rights, corruption.

A positive screen will be applied to any issuer who scores greater than or equal to 34 in the TwentyFour Observatory ESG system/scoring model. Our initial modelling showed that the higher the ESG score (and therefore the higher the positive screen), the higher the return, but also the higher the volatility. We chose a score of 34 as this gave the optimal return, whilst keeping volatility less than 3% at all times. We also strongly believe in rewarding those companies who are making positive strides to improve the direction of their company from an ESG perspective.

By having this minimum threshold requirement, we ensure that the Fund is only focusing on the highest rated issuers within the investable universe. We currently utilise the Asset4 ESG database from Refinitiv which gathers scores across a broad range environmental and social parameters (such as emissions, resource use, workforce, human rights, community etc.) which then feeds into Observatory. At the top level, we believe that this framework facilitates a consistent basis for analysis. The system allows the portfolio management team to develop an understanding of the environmental, social and governance characteristics of the issuers within the database. Within the database, the Portfolio Managers are easily able to challenge and overwrite the score given by Refinitiv and reward companies with improving ESG metrics or punish those with decreasing ESG metrics. For those holdings that do not have a score from Asset4, our Portfolio Managers will independently review the holdings and provide their own score based on similar characteristics.

* We define ‘material production’ as meaning sources of revenue greater than 5%. We do however strongly believe in rewarding those companies who are providing solutions to ESG problems and/or are making positive strides to improve the direction of their company from an ESG perspective. Thus we have the flexibility when deciding whether a negative screen ultimately applies to take a view on the ESG ‘Momentum’ of a company.

** We will not knowingly hold any issuer producing Cluster Munitions and Landmine (anti-personnel mines) in line with International Conventions.

Process:

The Firm’s process begins from the top-down which is controlled by the investment committee who meet formally on a monthly basis. The meeting is led by Felipe Villaroel (Partner, Portfolio Management) and Gordon Shannon (Partner, Portfolio Management), with other key members of the investment team mandated to be in attendance. Other members of the investment team are also invited and the meeting is for open, free ranging debate of the many issues that might be driving portfolio positioning at the time.

The meeting follows a set agenda and involves reviewing key inputs such as economic fundamentals, market technical, sentiment, valuations and risk and portfolio attribution whilst also covering global political issues and central bank action and policy. The meeting drives the macro strategy bias where relevant for all our portfolios with the main focusses of discussion centred around the main risk exposures including interest rate duration, credit duration, sector weighting and any hedging overlays - for the firm’s most unconstrained portfolio. These decisions are made on a consensual basis with the aim being to benefit from the broadest possible input from the investment team meaning debate can take some time.

Once the key risk parameters are set for our Multi-Sector Bond funds the meeting breaks down into smaller groups where the relevant portfolio management teams discuss the implications for other individual funds. Whilst some mandates might be limited in terms of how much they can do to replicate the Multi-Sector Bond funds it is important that, as a house, we are consistently following the themes set by the investment committee e.g. within a narrow ABS fund if the investment committee is suggesting a period suitable for risk coming off we might buy shorter bonds and hold higher levels of cash even if we can’t follow the specific hedging strategies.

The Investment Committee also meets weekly to conduct a portfolio review and a macro strategy validation or revision as necessary. The formal process sits alongside the less formal process of regular discussions of views around the investment team desks and, as a small house, the ability to pull together less formal group meetings on an ad-hoc basis when deemed advantageous.

Once the top-down asset allocation process is completed the emphasis switches to the individual portfolio management teams to populate their respective funds. Again, whilst we demarcate responsibility for individual portfolios the teams cross fertilise ideas and rely on each other on their specific areas of expertise. So, if the Outcome Driven team wishes to implement an asset allocation to Asset Backed Securities they will rely heavily on the ABS team to make the appropriate individual security selections for them.

The three teams take a somewhat different approach to their individual areas of knowledge that the Firm believes are the most appropriate to idea generation and security picking in their sectors although there can often be overlap, particularly in the financial sectors.

One important consistency in the TwentyFour approach across the portfolio management teams is the concept that a team will not take a risk-on position if any lead portfolio manager is not comfortable for the team to do so but that any individual portfolio manager can make a risk-off decision for credit reasons without the prior approval of his or her colleagues.

Once a recommendation is made it is presented to the lead portfolio managers responsible for the relevant mandate. Their job is to critique the analysis as much as possible to find reasons not to invest. Often this requires further work, then after all due diligence is completed, the team will make a decision with respect to the investment which, in the case of adding risk to the portfolio, may be vetoed by any of the respective lead portfolio managers.

Outcome Driven

The Outcome Driven team spend the majority of their time analysing Investment Grade Credit, which lends itself more towards a balanced quantitative and qualitative analysis. Many of the qualitative characteristics of their analysis are similar to the Multi-Sector Bond team but with a quantitative overlay provided by the Firm’s proprietary system ‘Observatory’.

Observatory seeks out the most compelling relative value securities to trade by regressing years of historical data combined with analysis variables such as yield, price volatility, sector, spreads, carry etc. The system can graphically show analytical data on individual bonds whilst comparing them to sector, currency and country averages. It has the ability to filter the asset universe to find bonds that fit any investment criteria with complete flexibility over how the data is presented and manipulated. To that point, because Observatory can store data in a ‘bottom-up’ form, the team can then manipulate it however they wish and aggregate it in lots of different ways.  For example, as well as always being able to show analytic data on individual bonds, they can also compare those bonds to:

• Sector/subsector averages
• Currency averages
• Country averages
• Maturity Band averages
• Ratings band averages
• Subordination/Tier or capital structure averages
• Ticker averages
• ESG scores (Controversies, Momentum, Engagement)

In short, they can ask unlimited questions of the data and use it to help filter out the background noise – thereby quickly finding which sectors and bonds have the greatest or lowest volatility, which are the cheapest or richest in terms of relative value in terms of spread, yield or even price volatility. By layering index provided data with our own in-house risk and value metrics, the system provides TwentyFour with relevant and timely information that other houses do not have access to, highlighting bonds with potentially the best risk-return characteristics for further analysis. At its core the framework is a combination of qualitative and quantitative analysis, which dovetails with the portfolio managers’ overall relative value decision.

A demonstration of Observatory can be found by following this link:

Observatory Demonstration - February 2023 | TwentyFour Asset Management (twentyfouram.com)

Multi-Sector Bond

A potential investment will be allocated to one of the portfolio managers who will then conduct a detailed analysis of the transaction. Typically including meeting with the borrower wherever possible, analysis of relevant documentation, investment banking research, historical information/reporting, other third party research and peer group analysis which results in a recommendation.

Whilst ultimately relying on our own research work we are happy to draw on investment banking research when appropriate, subject to MiFID II rules on investment research; TwentyFour does not pass research costs on to funds or clients. We fundamentally believe that it would be difficult to create a team of top quality analysts across the full range of fixed income asset classes. By fostering relationships with the banks and understanding their own strengths and weaknesses we believe we have access to best in class analysis and avoid the drag that can exist within larger fund management houses where the roles of portfolio management and analysis are separated.

Once a recommendation is made it is presented to the lead portfolio managers responsible for the relevant mandate. Their job is to critique the analysis as much as possible to find reasons not to invest. Often this requires further work, then after all due diligence is completed, the team will make a decision with respect to the investment which, in the case of adding risk to the portfolio, may be vetoed by any of the respective lead portfolio managers.

Asset Backed Securities

Asset Backed Securities form a very distinct sector of the fixed income universe involving large quantities of data and therefore lending themselves to a high level of quantitative analysis. This does however again need to be combined with qualitative analysis of the many human factors that influence the market.

Trade ideas themselves are generated from both the primary and secondary markets. As a major participant in all parts of the European ABS markets, TwentyFour have the ability to help drive successful primary deals and are often introduced to transactions before they have been made public, securing better terms (yield/structural protection) and allocations in doing so.

Ideas become trades through a rigorous credit process, including a full review of documentation (prospectus, rating agency pre-sale documents, marketing information, investment bank research etc.), as well as an issuer meeting where possible. Deal modelling is an important component of the process, and where necessary includes a bespoke model comprising a complete cash flow and risk analysis of the underlying loan pool, as well as the deal’s liability structure and performance triggers. This will enable accurate analysis of what range of scenarios could lead to deferral of coupons and principal loss, which can be evaluated for likelihood.

Post-purchase, each transaction is monitored whilst it is held via extensive monthly investor reports (for purchases of pre-existing transactions, historical data is analysed as part of the credit process). Bespoke monitoring templates are constructed for each transaction, and these are updated on a timely basis as reports are published. Performance is analysed for trends or material individual changes, and against the peer group. The stress model is re-run each time additional data is made available and the current scenarios (e.g. prepayment speeds) are evaluated.       

Resources, Affiliations & Corporate Strategies:

ESG resources

The integration of ESG factors in credit analysis and investment decisions is central to our approach to responsible investment. We do not outsource ESG research to a separate ESG team; instead ESG is fully integrated and ESG analysis is the responsibility of all Portfolio Managers. We believe that every member of the investment team is required to ‘own’ the process and do not believe that sub-contracting out ESG to an individual (or separate team) can be truly effective in an integrated investment process.

As briefly mentioned, we utilise the Asset4 ESG database from Refinitiv which has been integrated into our proprietary system, Observatory. The database covers approximately two-thirds of the holdings within the Firm (excluding our ABS holdings) and the information gathered scores companies on a total of ten different parameters; Emissions, Resource Use, Innovation, Workforce, Human Rights, Community, Product Responsibility, Management Score, Shareholders Score, and CSR Strategy Score. This information goes directly into our Observatory database and supplements our own due diligence.

We recognise the limitations of third-party databases especially the limitation of the availability in data. For instance, the data from the Asset4 database covers bonds issued by companies that have listed equities. As we invest in a number of bonds that are not covered, we take an active approach to engagement to source the data ourselves. We provide our own scores based on the same criteria as Asset4, thereby filling missing gaps in order to improve the quality of ESG data utilised. It is important to note that just as we utilise external company ESG scores, we do not solely rely on the data provided by Asset4; depending on our interaction with a company, or our knowledge of industry trends, we are easily able to adjust the ESG scores in our database.

Governance

TwentyFour’s inherent flat structure creates a high degree of interaction between all teams across the Firm’s portfolio teams and as a consequence, this creates a collegiate investment approach designed to act as a single unit. This means that the work of any individual investment professional is highly transparent to the remainder of the TwentyFour investment team.

Stewardship

We believe engagement should be a constructive, active dialogue between investors and companies on all aspects of their ESG performance. While fixed income investors do not have voting rights in the way shareholders do, larger firms typically issue bonds multiple times a year, which puts bondholders in a strong position to be able to influence corporate policy by engaging with management on an ongoing basis. At TwentyFour we aim to engage regularly with the management of every issuer whose bonds we hold in our portfolios, to better understand their ESG strengths and weaknesses, monitor their direction of travel, and overall encourage better ESG practices.

As part of our commitment to the UK Stewardship Code we publish a quarterly summary of our engagements with bond issuers, along with details of any resulting investment decisions, at the bottom of this page.

ESG investing is a fast-evolving discipline, and approaches can vary markedly from manager to manager. We therefore believe this makes the quality of the ESG data used in different scoring systems critical to outcomes, and even more so in fixed income, where we think data provision is improving but still well behind the level we see in the public equity markets. Because of this, we regularly engage with our external data providers and push them to extend their output.

https://www.twentyfouram.com/engagement-at-twentyfour

Industry affiliations

As a signatory to the UNPRI and the FRC’s UK Stewardship Code, we have exhibited our desire to fulfil this responsibility and to drive industry change by promoting better environmental and societal outcomes.

We also engage on behalf of our clients at the industry and regulatory level. TwentyFour is an advisor to the Bank of England, the PRA/FCA, the UK Treasury, the European Commission the European Banking Authority and a number of other EU Finance Ministries.

As a key investor in the European ABS Market, we have always been at the heart of industry wide initiatives. Our firm is the only UK asset manager who are founding partners of the Prime Collateralised Securities (PCS) initiative. We are also in our fifth term as vice-chair of the Association for Financial Markets in Europe (AFME) and a member of the Bank of England Residential Property Forum. In addition to this, we have recently been involved in the AMIC initiative, collaborating with other managers to define sustainability ESG risks metrics for securitised assets. This work will help the development of a sustainable framework in ABS. Our work with ELFA, the European Leveraged Finance Association on establishing an  ESG Questionnaire to be used across the CLO industry will improve data in that area and enable us to make more informed choices regarding the ESG quality of CLO deals.

TwentyFour’s Portfolio Managers are also heavily involved in a number of industry governance forums, such as Citywire round tables and provides speakers to numerous conferences on the subject of ESG. Our objective in collaborating with industry organizations/institutions is to ensure that market participants and policymakers alike work together to develop and maintain the most suitable environment for the ultimate benefit of investors.

SDR Labelling:

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