investment viewpoints
Outlook 2021 – convertibles
The sustainability transition to a Circular, Lean, Inclusive and Clean (CLIC™) economy
A key feature of the convertible bond market in 2020 was the very large number of new issuance coming to market. Indeed, we have already seen more convertible bonds issued this year (US$140 billion) than in any single year since 2007. Furthermore, the redemption schedule has also been quite light this year and this dynamism should result in the asset class growing by 25%-30% for the year.
It was particularly striking to see so many “new economy” issuers, as well as a rising number of issuance from companies investing in renewable sources of energy. Indeed, the majority of 2020 new issuance fits into a theme we have christened “working and consuming from home”, which comprises such activities as online learning, e-commerce, food delivery, cloud computing, data security, cybersecurity, big-data etc.
We also saw the first “green” convertible bonds (the largest from EDF) in 2020, as well as new issuance from leading players in renewable energy, such as Nextera.1
The shift in the utilities and energy sectors (towards lower-carbon emissions) is likely to accelerate on the back of new regulation and large infrastructure spending. This mega-trend will be accompanied by an acceleration of the digitalisation and automation of large swathes of the economy. It is also clear that the auto industry is quickly moving towards electric engines, a trend that is likely to encompass other means of transport. Finally, new working and consumption practices are emerging fast, and are unlikely to reverse.
It appears clear that the world economy will look quite different by 2025 than it did in 2015. Whether the changes will all be for the “better” is subject of debate, particularly when we take into account the social consequences of some of these trends.
However, we welcome these trends, as they fit well with our own strategy and convictions. The success of new-economy companies to raise money through convertible bonds will lead to more companies turning to the asset class to finance growth. We also see green convertible bonds as likely to multiply in the coming months as the increased appetite from investors for ESG/sustainable products is also felt in the convertible bond asset class. However, the record level of issuance is unlikely to be repeated in 2021, in our view.
Our team’s process has integrated ESG elements since 2012, and our work (particularly since 2018) was rewarded with the FebelFin2 label (Quality Standard for sustainable and socially responsible financial products) in 2020.
New working and consumption practices are emerging fast, and are unlikely to reverse.
What will a post-coronavirus world look like?
We expect (and hope) that many aspects of normal life will return once a vaccine is released, particularly those concerning socialising and travel. On the other hand, society’s adaptation to the pandemic has accelerated existing trends, which are unlikely to be reversed. In particular, we see changes in working practices as difficult to reverse (i.e. work moving online). We also see aspects of consumer behaviour being permanently changed, for example, this year has seen e-commerce spread to previously untouched consumer segments including real-estate buying and furniture shopping.
While some asset classes have experienced strong growth in 2020, we believe convertible bonds currently appear attractively valued, particularly from the point of view of the embedded option (the implied volatility is lower than the realised volatility). There is, however, some concern about the valuation of some underlying shares (particularly in high-growth sectors).
What are the likely consequences of a Biden Presidency?
The House of Representatives is unlikely to be divided, as the Democrats have a comfortable majority in the lower chamber. However, if, as seems likely, the Senate (upper house) remains under Republican control (a majority of 1 or 2 is the most probable scenario as we await the results of the run-off Georgia senate races in January), then there is little chance of substantial legislation becoming law. President Biden will be able to use executive orders to bi-pass Congress on certain aspects of policy, but we would expect more ambitious legislation to be stalled by a Republican senate majority.
The Biden administration is likely to be devoid of climate-change sceptics, in contrast to the Trump administration. This in itself is progress. Furthermore, the Biden administration has already announced that it would re-enter the Paris Agreement. This will also be welcome.
However, a divided Congress (Democratic President and House and a Republican Senate) will likely result in legislative paralysis when it comes to the most ambitious green infrastructure projects or far-reaching regulation.
The current political climate in the US does not reward bi-partisanship. As a result, the Republican Senate will likely oppose most initiatives relating to green investment or regulation. Any “Green New Deal” emerging from the US will likely be cut down to the most basic, unless the Democrats win both Georgia seats, in our view.
Similarly, we expect the Republicans in Congress to revert back to being staunch fiscal conservatives, as they have done every time the US president has been from the other party during the last 30 years. Their opposition to regulation will also be a key feature.
sources.
Wichtige Hinweise.
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