SSA bonds: A sustainable route to institutional portfolio diversification?

Key points:

• The euro-denominated SSA bond universe – which often benefits from government guarantees – in our view currently offers an attractive spread pick-up over euro government bonds
• We believe SSAs present one of the best responsible investment profiles within the fixed income universe
• Adding allocation to SSA bonds could improve diversification and liquidity, in our view, and their predictable cashflows can complement both traditional credit and liability-matching portfolios

Supranational, sub-sovereigns and agency (SSA) bonds are a distinct but often overlooked sub-asset class within fixed income. We believe they can offer an attractive investment opportunity to institutional investors due to a potential improved yield over government bonds, their typically higher credit ratings and a diverse risk profile.

Many European pension funds and insurance companies invest in government bonds to match their liabilities and in corporate bonds as part of their growth allocation. But at 16% of a key euro market benchmark, SSAs are a sub-asset class in their own right.¹ They often enjoy the benefits of some government guarantees and can add diversification, while currently providing a spread pick-up over government bonds.

Supranational bonds also qualify as High-Quality Liquid Assets (HQLA) and can be used for portfolio liquidity enhancement and as collateral for repo and derivatives exposure.² Further, due to the objectives of many SSAs, particularly supranationals, they can be prolific issuers of green, social and sustainability bonds and therefore, alongside their relatively low carbon emissions, can improve the responsible investment footprint of investor portfolios, in our view.

We think the market characteristics and our experience analysing issuers and delivering SSA portfolios shows how this segment of the fixed income universe can be used to help achieve investment objectives. It is not a homogenous asset class, and therefore, those objectives can determine how a portfolio of SSAs is constructed and managed. There is potential, we believe, to make liability hedging more efficient, to build a stand-alone portfolio aimed at providing regular and predictable cashflows, or to use SSAs as a sub-portfolio of a traditional credit mandate as a source of liquidity or a de-risking option. There may also be an argument for using non-euro-denominated SSAs where it can increase the investible universe and regional diversification.