Sustainable, Responsible &/or ESG Policy:

The Schroder Sustainable Bond Fund is a global total return bond fund. The aim is to allocate capital to sovereign and corporate issuers that are acting in a sustainable manner and are contributing towards to a more economically sustainable future over the medium to long term.

Our approach establishes a transparent and credible framework for sustainable investing across both sovereigns and credit. Uniquely, the fund seeks to address some of the well-known challenges associated with sovereign sustainability, such as a lack of clarity around sustainable objectives, poor data quality and an inherent income bias (to the extent that sustainability scores such as SDGs are highly correlated with a country’s wealth).

The United Nations’ Sustainable Development Goals (UN SDGs) are the anchor point for the fund’s sovereign investment universe, on which we overlay additional social and environmental criteria to ensure countries included in the investment universe have the appropriate sustainability profile.

The fund applies its sustainable approach through:

• Utilisation of the Global Unconstrained Fixed Income team’s top-down, ESG-integrated investment process.
• Combining an innovative approach to sustainable sovereign investments that adjusts for income bias with a well-established sustainable credit framework.
• Integration of Schroders’ award-winning tool, SustainEx™, for sovereigns and corporates.
• Inclusion of issuers that demonstrate a stable and (importantly) improving sustainable trajectory.
• Engagements with corporate issuers aimed at improving disclosure and driving the widespread adoption of robust ecological and social policies.
• Investing in green bonds, social bonds and sustainability bonds.
• Collaboration across Schroders fixed income platform and with the firm’s sustainable investment experts.

The sustainability characteristics of the overall portfolio are assessed by Schroders’ proprietary tools (notably SustainEx™), which ensures the combination of asset classes at an overall fund level is in line with our, and our clients’, sustainability expectations.

Fund-level sustainability commitments:

The fund invests at least 70% of its portfolio in bonds that the investment manager classifies as sustainable. A bond is considered to be sustainable if either the issuer itself or the activity funded by the proceeds of the bond makes a positive contribution to:

• Planet. This includes contributions to the environment - such as reducing greenhouse gas (GHG) emissions, which helps slow down climate change.

and/or

• People. This includes contributions to one or more of the following:
  • Workforce wellbeing - such as a company paying more than living wages or providing education and training (which supports employee professional development and prosperity), or a sovereign providing education (which facilitates economic participation) and protecting human rights (which allows workers to be fairly compensated from their employment).
  • Public and consumer wellbeing - such as a company developing new products and services that improve customers’ quality of life (for example medical drugs, therapies, diagnostic tools and healthy food), or a sovereign setting policies against cybercrime (which aim to protect a country’s citizens from exploitation online).
  • Healthy, inclusive and connected communities – such as a company providing access to clean water and sanitation (which promotes good health), or a sovereign setting policies that tackle discrimination (which aim to create more equitable and harmonised communities).
  • Effective and accountable institutions – such as a company promoting financial stability (which supports people’s prosperity and financial security), or a sovereign setting policies that support sociopolitical stability (which leads to a safer and more prosperous society).

Bonds are classified as sustainable if they achieve a positive score in Schroders’ systematic model (SustainEx™). SustainEx™ produces an assessment of the bond issuer’s effect on a defined set of benefits and costs for people and the planet, which are then combined to calculate an overall sustainability score for the bond. A bond must achieve a positive score to be deemed sustainable. The model is based on in-depth internal research, which has included establishing the relevance of various factors to the sustainability outcomes referred to above.

In some exceptional cases, SustainEx™, does not provide a fair reflection of an issuer’s contribution to people and/or the planet. The investment manager can refer such investments to Schroders’ Sustainable Investment Panel (the “Panel”), an independent panel of experts. The Panel reviews additional robust evidence provided by the investment manager to determine whether, if such evidence was available to SustainEx™, the investment would achieve a positive score. This could be relevant where SustainEx™, does not capture a relevant area of positive contribution – such as where an issuer produces a particularly sustainable product whose importance to people, or the planet is not fully captured by the issuer’s overall score. Alternatively, it could be relevant where the investment manager is able to supply additional data to enhance a calculation – such as where an issuer does not publish details of employee salaries, but the investment manager is able to obtain or more accurately estimate this from other sources.

The fund may also invest in GSS Bonds as part of the 70% referred to above. For these investments, the investment manager does not take into account the SustainEx™ score of the issuer but instead analyses the use of proceeds of the GSS Bond to determine whether a positive contribution to the planet or people can be expected as a result of the specific activity that the bond is designed to finance. It does this by assessing each GSS Bond’s adherence to a set of robust principles established by the International Capital Market Association or an equivalent body.

The fund does not directly invest in assets that the investment manager deems to conflict with the sustainability objective. This refers to assets that not only fail to meet the sustainability objective, but also actively conflict with the positive outcome it seeks.

As the fund aims to invest in bonds that provide a positive contribution to people and/or the planet, the investment manager defines conflicting assets as bonds which have a significant negative effect on people and/or the planet. These are bonds of issuers that are directly and materially exposed to activities that are significantly damaging to the environment; and bonds of issuers that are directly and materially exposed to activities or actions and/or have an unjustifiable cost to society.

Process:

The definition of Schroder Sustainable Bond’s investment universe is the foundation of its approach.

The fund invests in fixed and floating rate securities issued by governments, government agencies, supranational and corporate issuers worldwide, of which 80% are denominated in (or hedged back into) Sterling. All holdings must satisfy the fund’s sustainability criteria to qualify, and while there are differences between the criteria for sovereigns and credit, the goal is the same in both cases: ensuring capital is allocated to those issuers working towards a more sustainable future.

i. Inclusion of Corporate Credit in the sustainable investment universe

We have long recognised that non-financial considerations including environmental, social and governance issues have a material influence on supply and demand within an investible horizon and the sustainability of issuer cash-flows through changing consumer expectations, increasing regulation, supply chain risk, brand reputation etc. We recognise that ESG issues can and do have a material impact on the short, medium and long-term performance of corporate issuers.

We believe that integrating E, S and G into an investment process is not a simple filter based on snapshot external metrics that are often static and backward-looking. Experience has told us that a lot of bondholder value can be overlooked by short-sighted decision-making.

We integrate ESG into our investment process in the following ways:

• Application of minimum exclusions: We avoid issuers that have businesses that are materially damaging to the climate and impose unjustifiable social costs. The excluded sectors represent areas that have limited potential to transition towards stronger sustainability practices.
• Themes-driven research and investment approach: Environmental and social related themes (such as renewable energy or rising inequality in the society) sit side by side with non-ESG themes (such as digitalization or urbanization) to provide a forward-looking lens for our credit analysts to judge the potential for companies to adapt to changing secular themes and the effect they have on their cashflows. Theme ideas can be drawn from a variety of sources, such as news articles, academic papers and internal research. If new themes are considered by the team to be potentially valid and investible, further analysis will be carried out to build a better understanding of how themes may manifest.
• Proprietary ESG rating taxonomy: We employ a two-dimensional proprietary ESG rating taxonomy that rates each issuer by quality (A-F rating) with a forward-looking directional rating that identifies improving and deteriorating issuer sustainability characteristics (Improving, Stable, Deteriorating). We attribute a 4-level sustainability rating to each of the E, S & G pillars of the assessment that reflects a judgment that is relative to other issuers in the industry sector. An overall sustainability rating is then assigned to define the overall sustainability position of the issuer. The ESG assessments are based on analysis of publicly available data (such as emissions, water usage, boardroom pay, board diversity etc.) as well as views drawn through engagement with company management and insights we get from proprietary tools such as SustainEx™.
• Based on this, companies that are rated A to C are eligible for purchase. Any issuer that holds an internal D rating combined with a deteriorating directional indicator cannot be purchased (and existing holdings whose rating is downgraded to D have to be sold within a reasonable period). Companies that are rated D-improving, however, can be purchased. (F/fail rated bonds are deemed ineligible for purchase.)
• Active engagement with issuers: We engage with companies in a systematic and strategic way. By engaging with companies and their management we can improve our understanding of emerging risks and opportunities and their approaches to managing them and encourage companies to adopt long-term approaches to their stakeholder relationships, helping us to protect or enhance the value of our investments while aiming to generate better returns.
• ESG engagements are undertaken by our analysts, fund managers and in collaboration with the Sustainable Investment team to give greater clout and increase the chance that companies will listen and react to our engagement.
• The mechanism for engagement with company representatives varies but typically takes place through one-to-one meetings with company representatives, written correspondence (e.g. email, letters), phone calls, discussions with company advisors and stakeholders, voting and joint engagement with other investors.
• We record all of our active ownership activities in our in-house database to facilitate the monitoring of companies in which we are invested and track progress against defined milestones and goals.
• Proprietary sustainability tools: Schroders’ Sustainable Investment team has developed a suite of research-based and quantitative ESG investment tools that provide a framework to incorporate ESG factors into our analysis. 
• Portfolio risk framework: This includes proprietary sustainability tools such as SustainEx™, which feeds into the Aladdin portfolio management system for assessment of sustainability risks at both issuer and portfolio level.

ii. Inclusion of Sovereigns & Supranationals in the sustainable investment universe

The sustainable investment universe uses three key pillars and only countries that satisfy the three criteria are included in the investment universe:

1. Countries who outperform relative to their income peers (i.e. countries with a similar level of development in terms of UN SDG progress) – designed to solve for the income bias in sustainability scores. All UN SDGs are given equal importance.
2. Climate (Net Zero) commitment (in the form of a policy document) – sourced by the Energy & Climate Intelligence Unit.
3. Social and political freedoms – a country must be classified as ‘Free’ or ‘Partly Free’ by Freedom House.

Addressing the ingrained income bias in sovereign ESG scores

Sustainability scores are highly correlated with a country’s gross national income per capita, with richer nations inevitably receiving better ESG scores, reflecting their stronger institutional frameworks. Investing in countries with the ‘best’ scores would therefore direct capital flows away from countries who arguably need them the most. It is fundamentally unhelpful both from a sustainability ethos and on pure investment grounds to penalise countries that may be trying to do ‘the right thing’ simply because they come from a lower developmental starting point.

We seek to address this through the definition of our sovereign investment universe and to ensure that we include all countries that are demonstrating suitable progress towards meeting the SDGs. To do this we assess countries’ progress relative to other countries at a similar development level – therefore preventing the entrenched income bias skewing the universe towards more developed countries.

We achieve this firstly by grouping countries into the four income brackets (high, upper-middle, lower-middle and low income) defined by the World Bank, using gross national income (GNI) per capita. We then use the SDG index scores to compare the relative progress of countries in achieving the SDGs for countries against others in the same income bracket. Only the top proportion of each income bracket are permitted in the investment universe.

This means we compare the relative progress of the US vs Canada, for example, rather than, say, South Africa, given the relative stages of economic development of the two nations. By comparing SDG progress for countries of a similar level of development, we can ensure our universe includes those that are outperforming their peers, while avoiding the inclusion of relative laggards.

We believe this structure addresses the inherent bias, while maintaining transparency and ensuring that criteria are clearly defined and can be readily understood by our clients.

To further ensure the sustainability characteristics of countries that are investable under our framework, we employ two further criteria.

Social criteria: We believe sustainable development at a sovereign level requires a country’s citizens to enjoy a suitable degree of political and civil liberty. To ensure our impartiality in assessing this, we use from the annual World Report issued by Freedom House, a leading independent arbiter of levels of democracy and political freedom. We only include countries that are designated ‘Free’ or ‘Partly Free’ by Freedom House in our investible universe.

Environmental criteria: For the assessment of a particular country’s engagement with climate risk management, we use the Energy and Climate Intelligence Unit’s ‘net zero emissions tracker’. For inclusion in our investible universe, we require evidence of a government’s solid commitment to addressing client change and to at least have a net zero pledge contained in an official policy document, which can be credibly expected to be signed into law in the short to medium term.

Inclusion of supranationals and agencies to complete the sustainable investment universe:

We take the view that investment in supranational agencies is fundamentally aligned to our overall philosophy and while these issuers’ sustainable merits can often be underappreciated by investors, we expect them to make up an important part of our investable universe.

While the activities of supranationals vary considerably, multilateral development banks (such as the Asian Development Bank, African Development Bank, European Bank for Reconstruction & Development etc.) play a crucial role in promoting sustainable economic and social development. A qualitative assessment of SSA issuers is reflected through an uplift of SustainEx™ scores for those institutions at the forefront of sustainable funding and development.

iii. Additional scoring-based exclusions:

MSCI Ratings
Any corporate issuer with an MSCI sustainability rating of CCC or lower is excluded, while a MSCI rating of single-B might be permitted provided our internal analyst rating is above C (using the taxonomy above). Schroders’ proprietary model, SustainEx™ quantifies positive and negative externalities through a common monetary lens, at company, sovereign and overall portfolio level. It estimates – based on academic research and data -- the costs of such externalities. As a further screen to only include appropriately sustainable issuers in our portfolio, we automatically exclude from consideration the bottom 10% of the corporate universe based on SustainEx™ scores (please refer to the answer to question below on KPIs for further information on SustainEx™).

Green, Social and Sustainability bonds
One key caveat to our sovereign inclusion criteria is in the case of Green, Social, Sustainability and SDG-linked bonds, whose sustainable criteria – assuming a credible sustainable objective as the target of bond proceeds – would mean these could be eligible even if their issuing sovereign or corporate is otherwise excluded.

Investment in these types of assets is fundamentally in line with the philosophy and objectives of the fund, and we look to encourage sovereign and corporate issuers to widen their use of such issues.

Investment process
The opportunity set in credit is vast. In the management of the Sustainable Bond Fund (in common with the other funds managed by Schroders’ Global Unconstrained Fixed Income team) we believe that we can most effectively achieve positive alpha for our clients by combining a dynamic and agile approach to portfolio allocation with a clear longer-term strategic view of the world. Our approach aims to remove some of the behavioural biases associated with traditional fixed income investing by using a mix of systematic analysis and specialist investor insight. We leverage the deep global resources that Schroders has to offer, combining macroeconomic and microeconomic research with market-based technical analysis.

The key elements of our team’s investment process:

• Founded on a belief that global macro factors drive bond markets worldwide, but also that bottom-up credit research is a crucial element of added value in corporate bond portfolios
• Making use of a flexible scenario-based approach to ensure portfolios can nimbly capture opportunities as they develop, but also to build in risk management at the core of the process
• Using a system of scorecards, based on the wide and deep expertise within the team, to formalise our view of risk appetite across different markets and sectors
• Delivering performance from bottom-up credit analysis through understanding corporate business models and assess which companies will (continue to) thrive
• Combining our deep fundamental research with the team’s on-desk quantitative capability to help optimise portfolios, reduce biases and underpin portfolios with a robust risk management framework
• Aiming to use the full range of active management levers to generate returns for clients.

And its four “pillars”:

1. Scenarios: we define our strategic view of the world over the medium term, using a scenario-driven approach which applies probabilities to different “states of the world”. We aim to understand the potential market outcomes of different macroeconomic developments globally and establish which areas of fixed income markets are best supported by the combination of scenarios we have identified. The probabilities help us assess what the dominant scenario will be over the medium term and are constantly re-evaluated.
2. Risk Appetite: we establish the level of our risk appetite, so we can ensure portfolios incorporate the appropriate level of risk and reflect that in their positioning. The views of individual specialists are formalised through a monthly scorecard process, in which a set of inputs are combined to result in a score for each sub-asset class. These scores provide an indication of our confidence in how each sector or position will perform relative to others, and to its own history, over the short to medium term.
3. Optimisation: a quant model designed by the team’s on-desk quantitative investment analysts is used to help navigate some of the complexities of the fixed income markets. In a world where there are many competing drivers of fixed income returns, we use modelling to help us get a clearer picture, manage risks, and reduce behavioural biases.
4. Create well-diversified portfolios, drawing from the sustainable universe of sovereigns and corporates that we have established: portfolios are constructed initially from a top-down perspective, using the output from the optimiser to modify portfolios in line with specific objectives. Portfolios are constantly monitored and adjusted in response to the changing environment. While the scorecard and optimisation elements formally take place monthly, the more frequent changes to the probabilities in our scenario framework can have a more frequent impact on positioning – influencing trades and position sizes on a more short-term basis.

We also believe that there are significant opportunities to deliver consistent alpha from bottom-up credit analysis throughout the market cycle, across global credit markets. Our team of analysts look deeply into the business models of companies – including from a sustainability perspective – to assess which companies will prosper and which will be vulnerable as the world changes. To help focus this work, Schroders has developed an innovative forward-looking themes-based selection process, which provides a framework (again with a strong sustainability component) to guide our research and differentiate between issuers. Where multiple themes combine in support of, or to highlight potential risks to, a company, this helps drive the conviction behind a particular position.

Resources, Affiliations & Corporate Strategies:

Fixed Income ESG expertise

Our investment teams, including portfolio managers, are aligned in their efforts to integrate sustainability factors alongside financial considerations in their analysis and throughout portfolio construction. While our ESG integration process was only formalised in 2020, environmental and social considerations have long formed a part of our analysis, with governance concerns remaining critical to the analysis of corporate issuers.

Our credit analysts (40+) integrate ESG considerations, including climate and decarbonisation, within their issuer and sector-level analysis. Our team of credit analysts are responsible for conducting fundamental, financial and sustainability analysis for the issuers they cover. All our new single-name investment research includes financial and sustainability analysis side-by-side, including analysis on the environmental considerations for each issuer.

We also employ dedicated sustainable credit analysts who are integrated within the fixed income platform. These analysts have specific responsibilities, including carrying out and coordinating strategic engagement programs with credit issuers on ESG topics; facilitating the implementation of ESG insights; developing frameworks for sustainability-focused funds; assessing ESG-labelled credit instruments; collaborating with the sustainable investment team.

Sustainable Investment Team

Sustainability is fundamental to our investment principles at Schroders, and we have an experienced and well-resourced Sustainable Investment team, who are embedded within our Investment function. We are a global team, spread across four regional hubs in London, Paris, Singapore and New York, aiming to ensure that sustainability is embedded through our global investment teams and client functions.

The team is led by Andrew Howard, Global Head of Sustainable Investment. As team head, he oversees our approach to ESG integration, active ownership, our sustainability research and tools, and our reporting and product strategy.

Our central Sustainable Investment team sits alongside investment teams rather than operating in a silo, which facilitates regular dialogue with our analysts and portfolio managers.

It is organised into four pillars:
1) Sustainable Investment Management, incorporating advisory and integration, models and data, climate and nature and sustainable research 
2) Active Ownership, encompassing engagement and voting
3) Impact
4) Regional experts in Asia Pacific, Europe and North America.

We outline their key responsibilities and areas of focus below.

1.Sustainable investment management

Our Advisory and Integration team acts as a central contact point and consultant for a range of stakeholders across the business. This includes advising investment teams on ESG integration best practice; compliance, risk and legal teams on ESG regulation; and working with our regional experts; across Asia Pacific, Europe and North America, as outlined under pillar four.

Our Models and Data team is responsible for the maintenance and evolution of our suite of proprietary tools. They are also responsible for ESG data, ensuring we harness sustainability data effectively from both conventional and unconventional sources.

Our Strategy and Research team is responsible for undertaking sustainability research to: inform firmwide strategy and commitments; provide insights for investment teams to analyse sustainability-related risks and opportunities; and provide research-related and technical support for other stakeholders across the firm.

2. Active ownership

Our Engagement team partners with investors to have dialogue with the companies in which we invest, seeking to understand how prepared they are for a changing world and pushing them towards more sustainable practices. The team track the progress of these engagements and hold companies to account.

Our Corporate Governance team is responsible for voting in line with our Voting Policy and Principles.

3. Impact

Our Impact team is responsible for scaling our impact product offering in line with best-practice impact principles. The team works closely with investment desks and is responsible for developing and implementing our impact management and measurement framework, including impact assessment and monitoring at transaction and portfolio level, product development, impact strategy and impact reporting.

4. Regional Expertise

Our Regional Experts based in Asia Pacific, Europe and North America have a deep understanding of local market characteristics and nuances, and are responsible for staying abreast of sustainability-related developments. Our experts work with clients and internal teams to navigate and support clients’ ESG aspirations and challenges, utilising Schroders’ proprietary tools and research to develop investment solutions that meet their needs. They also engage with regulators and industry bodies to shape and support the global sustainable finance agenda. Our regional experts are a critical extension of the central team in London as the firm continues to evolve its global ESG strategy.

Governance of our ESG strategy and policies

We have a number of governance structures in place for decision-making and oversight of our approach to sustainable investment. The Board of Schroders plc (the Board) has collective responsibility for the management, direction and performance of the Group, and is accountable for our overall business strategy. The Group Chief Executive is responsible for proposing the strategy for the Group and for its implementation, supported by the Group’s senior management team and a number of Committees, some of which are noted below.

The Group Sustainability and Impact (GSI) Committee provides advice to the Group Chief Executive on sustainability and impact matters. The Committee considers, reviews and recommends the overall global sustainability and impact strategy, including key initiatives, new commitments and policies for approval. The Global Head of Sustainable Investment and Global Head of Corporate Sustainability are members of the Committee and report to the Group Executive Committee and to the Board.

The Sustainability Executive Committee (Sustainability ExCo) develops and oversees the delivery of our Group-level sustainable investment management strategy. The ExCo also advises on the development of our sustainability and impact investment and product frameworks. The ExCo has senior representation from across the business including Investment, Client Group, Wealth Management, Schroders Capital and Corporate Sustainability.

The Sustainability Regulations Steering Committee (Sustainability Reg SteerCo) oversees the progress of in-flight sustainability regulatory change programmes, as well as monitoring emergent sustainability regulations and determining their high-level impact on our Group sustainability strategy and supporting operations. The Sustainability Reg SteerCo receives input on planned or potential sustainability-related regulation from our Public Policy team, which actively engages with relevant regulators, industry trade associations and other bodies in the United Kingdom (UK) and European Union (EU). The Sustainability Reg Steerco has senior representation from across the business including Investment, Wealth Management, Schroders Capital, Legal, Risk & Compliance, Product and Operations Management.

Certain Schroders entities, businesses and Investment teams also have their own committees which consider their sustainable investment activities. For example, the Private Assets Sustainability and Impact Steering Committee (PA S&I SteerCo) develops and oversees the implementation of the Private Assets Sustainability and Impact strategy. In addition, the Wealth Management Sustainable Investment Committee (WMSIC), a sub-committee of the Wealth Management Investment Committee (WMIC), has delegated responsibility for recommending Wealth Management's Sustainability models, as well as providing investment strategy and direction for client portfolios that are linked to the sustainable models.

Alongside our central Sustainable Investment team, sustainable investing is also overseen and delivered by dedicated teams and expert individuals embedded throughout the firm (including across Investment teams and Client Group functions).

Industry involvement

We believe we have a particular role to play in sharing our expertise on different areas, supporting best practice but also learning from others.

We have a long-standing commitment to support and collaborate with several industry groups, organisations and initiatives to promote well-functioning financial markets. Our key stakeholders include exchanges, regulators and international and regional trade associations. For example, Schroders is a member of trade bodies such as the Investment Association in the UK, the European Fund and Asset Management Association (EFAMA), the Asia Securities Industry and Financial Markets Association (ASIFMA) in Hong Kong and the Securities Industry and Financial Markets Association (SIFMA) in the US.

Through this participation we share our insights to support the development of policy recommendations, share best practice and build coalitions of like-minded market participants to advocate for better functioning markets. We consider this to be key in improving responsible investment standards across sectors, establishing a consistent dialogue with companies, and in promoting the ongoing development and recognition of sustainability and ESG within the investment industry. A list of organisations and initiatives of which Schroders is a member or signatory is available on our website (Industry involvement| Schroders global).

SDR Labelling:

Sustainability Focus label

SDR Literature:

• Consumer Facing Disclosure