ESG Investments and Real Estate

Please note this automated transcription may contain errors.

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Richard Green: Good morning, everyone. My name is Richard Green I'm director of the USC Lusk center for real estate and as always it's my pleasure to welcome you to this edition of lusk perspectives.

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Richard Green: This is a program. We started in March, immediately after the shutdown, I believe we are on

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Richard Green: Edition number 25 today, so welcome.

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Richard Green: It's my great pleasure to welcome Bonnie Wongtrakool to lusk perspectives today. A little background. A number of you said to me.

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Richard Green: That you are very interested in the issue of ESG and, in particular, you want to know what it is and

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Richard Green: It's becoming increasingly important, because increasingly area. There are investors who are not willing to invest in companies entities, etc. That don't have ESG plans.

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Richard Green: In place. So it turns out by a happy coincidence. My neighbor Bonnie runs ESG for Western asset management, a company I'm sure many of you are familiar with.

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Richard Green: It's well known as structured finance investor and she does ESG for them. And so I thought, let's have somebody who runs ESG for a really important company.

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Richard Green: come and tell us what it's all about. And then have a conversation around that. Before I introduce Bonnie, a little more informally. I do want to share with you.

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Richard Green: A little

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Richard Green: Story about Bonnie and her husband beyond Kim, who, as I said, are my neighbors who started a series of concerts on Sunday afternoon and very soon after. Again, we got locked in. You can hear them.

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Richard Green: Well, from my front porch about a block and a half away from their house. We often awful often wondered over to listen to them.

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Richard Green: And what I will tell you is they are really good players, both of them and

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Richard Green: They get really amazing guests to come and join them from time to time, they, they have not done it for the last few weeks, but it really made living in our neighborhood and much more pleasant place.

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Richard Green: Which tells you, at least when it comes to the s part of the SG which is social

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Richard Green: Bonnie puts her money with where our mouth is does things that actually makes the world around her a more pleasant better place, particularly in times of difficulty.

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Richard Green: Bonnie has a distinguished resume graduate of Harvard Harvard Law School. She's been with Western for about 17 years now and it's been running the SG program for two years there, Bonnie. Welcome to less perspectives. Thank you very much for being with us today.

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Bonnie M. Wongtrakool: Thank you Richard appreciate the invitation and it's great to be here.

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Bonnie M. Wongtrakool: So just, again, in case some of you don't know what Western acid is we are a fixed income global money manager.

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Bonnie M. Wongtrakool: We have about 470 billion in assets and it does run across all different fixed income classes including mortgages and asset backed securities, but also sovereigns corporates high yield.

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Bonnie M. Wongtrakool: Bank loans investment grade, you name it. Absolute returned as well. So that's our background, we are headquartered here in Pasadena, but we also have eight offices around the world.

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Bonnie M. Wongtrakool: So Richard. Richard asked me to give a bit of basics of ESP here. So in order to do that, I'm going to share my screen and walk you through a few slides that will help plea.

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Bonnie M. Wongtrakool: hopefully help you understand what is the SG so I think everyone understands what the E and the S and the G stands for environmental, social and governance.

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Bonnie M. Wongtrakool: But what are people actually looking at when they talk about yesterday. So this slide here has a number of different examples.

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Bonnie M. Wongtrakool: Of E s AMP G factors, many of which, if not all, which are relevant to the real estate sector, and I'll walk you through some of those so you can get a sense of what people look at

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Bonnie M. Wongtrakool: So, and under environmental. There are a number of things that pertain to just the development phase. So when we're talking about

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Bonnie M. Wongtrakool: What type of materials are being used. Are they sustainable, what type of energy efficiency in the property that's one of the things you'd look at

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Bonnie M. Wongtrakool: As well as during the construction. Is there a disturbance to the surrounding community to biodiversity desert deforestation.

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Bonnie M. Wongtrakool: That type of thing. And then there are other things that

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Bonnie M. Wongtrakool: Are relevant along the entire operation of the property. So that does include the greenhouse emissions which, in part, depend on how the other building has been constructed

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Bonnie M. Wongtrakool: But also, and I'm sure you've all seen headlines about this. The properties resilience to things like natural disasters like floods and hurricanes, where is it located is that area going to be very vulnerable to climate change.

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Bonnie M. Wongtrakool: So those are some environmental factors under Social. There are some things that pertain to all companies and are fairly obvious. How are you, attracting your employees. How are you retaining them.

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Bonnie M. Wongtrakool: Do you have a diversity of skills and viewpoints within your organization. And then there are others that are less well known, so

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Bonnie M. Wongtrakool: For example, are you employing labor that is illegal and a lot of employers might not directly be doing that.

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Bonnie M. Wongtrakool: But they may have it in their supply chains. And we're seeing increasing scrutiny around that, especially in sectors like apparel. So right now, there's a lot of focus on whether some of the apparel retailers are using manufacturing that does employ ethnic Chinese labor, for example.

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Bonnie M. Wongtrakool: But for going back to real estate. There's also things like how are you managing your relationship with the community and that that could be very pertinent both in the development phase, but also the operational phase.

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Bonnie M. Wongtrakool: And then finally, under governance, we're really trying to look here at what is the quality of management and how are they approaching risk. How are they managing it.

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Bonnie M. Wongtrakool: And it's really important to have good governance, because without the good governance, you really can't manage the environmental or the social

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Bonnie M. Wongtrakool: Part of PSG. So it's extremely essential we consider this to be the foundation at Western asset when we're looking at the HD

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Bonnie M. Wongtrakool: But they are things that you would think about, like, how is the compensation is that aligning the management with the long term goals of the stakeholders, or is it about short termism

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Bonnie M. Wongtrakool: Is there transparency around how the reporting both their accounting and also how they're doing their taxes.

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Bonnie M. Wongtrakool: And if there isn't that often can be a red flag for problems elsewhere in the organization.

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Bonnie M. Wongtrakool: And then there are elements that are pretty hard to analyze, but that can be extremely important, such as around bribery and corruption and those can be hidden for many years and then to come out and be

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Bonnie M. Wongtrakool: Quite detrimental to that organization and possibly be the death knell of it.

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Bonnie M. Wongtrakool: But when we're looking at governance, we're looking at how is the company managing against the risk of all of those things. And hopefully, trying to minimize that.

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Bonnie M. Wongtrakool: So why would we look at any of these things, E, F, G, and it's really because we're looking for factors that can influence the long term sustainability of an organization.

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Bonnie M. Wongtrakool: Even if they're not financial and not on the SEC filings, they still might be quite material and that is the purpose of looking at ESP within analysis.

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Bonnie M. Wongtrakool: So if that's the issue analysis. I'm trying to turn to my next page here just not quite working. Oh, there we go.

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Bonnie M. Wongtrakool: What is he investing because that's a different kind of

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Bonnie M. Wongtrakool: Question as well. So there's a lot of different ways to implement ESP within portfolio management and I would divide that into two basic groups. So on the left hand side you have ESC integration.

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Bonnie M. Wongtrakool: And what that refers to is that you're looking at ECU factors among many factors in your investment analysis. So you're looking at the financial factors and you're looking at non financial factors and you're considering them holistically.

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Bonnie M. Wongtrakool: And that's how at Western. So that's what we do. We do this throughout all of our portfolios, because we really do believe in order to assess fundamental value versus market valuations. You need to look at all those different things.

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Bonnie M. Wongtrakool: On the right hand side is a thematic approach to ESP. And this is where specific issue factors are driving investment decisions and security selection within the portfolio.

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Bonnie M. Wongtrakool: So there are two ways to implement dramatic investing. There's a negative screening and there's a positive screening

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Bonnie M. Wongtrakool: So the negative screening is well known. It's called Sri often socially responsible investing

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Bonnie M. Wongtrakool: And this technique has been employed for decades. And what that refers to is the exclusion of certain types of business activities from your portfolio or maybe even countries.

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Bonnie M. Wongtrakool: Countries that are sanctioned perhaps but common Sri filters today would be tobacco or weapons and now we're seeing an increasing number of

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Bonnie M. Wongtrakool: discussions around fossil fuels and so at the university level, a lot of universities have been debating whether or not to divest their fossil fuel investments.

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Bonnie M. Wongtrakool: On the right hand side is the positive screening and this is a newer type of

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Bonnie M. Wongtrakool: Field, I would say, in the sense that it used to be more niche. There used to be sort of a impact investing community, but it was very limited and perhaps just limited to some high net worth or family offices.

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Bonnie M. Wongtrakool: And now it's become a lot more mainstream and essentially how this is expressed is sometimes it's a best in class approach or the portfolio is looking for

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Bonnie M. Wongtrakool: Issuers in sectors that are best in class and they're usually practices or it can be something more thematic like a clean energy fund or a gender equality fund.

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Bonnie M. Wongtrakool: Or it can be in the fixed income space. It can be something like green bonds and social bonds which are fixed income instruments, where the use of proceeds is dedicated towards a green project or a social project. And I'll talk a little bit more about that in a few minutes.

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Bonnie M. Wongtrakool: So when we look at investing. How big is it really and this study comes from the which is the global sustainable investment alliance.

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Bonnie M. Wongtrakool: From 2018. So that's the most recent figure we have, and it has certainly grown since then, but it does give does give you a sense of how big and how each of the techniques that I just described are employed.

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Bonnie M. Wongtrakool: So these bars on the left hand side, don't exactly line up with the categories. I said, but pretty close. So the largest bar there, the one that's about 20 trillion

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Bonnie M. Wongtrakool: That is the Sri category which, as I said, has been used for a long time and I think will continue to be used and it continues to grow. So globally. It's growing at about 15% and expect that to continue

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Bonnie M. Wongtrakool: And then the next biggest bar is the EC integration, which was the left hand side of the previous chart that I showed where you're looking at HGA among many factors and that's growing a little more quickly growing at 29%

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Bonnie M. Wongtrakool: And that's the technique that's being employed by a lot of large asset managers. If you look to see the largest global asset owners over half of them say that they're using easy integration right now.

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Bonnie M. Wongtrakool: So it's become increasingly common. And then from the right on the third, fourth, fifth, sixth, seventh bars. They all refer to basically

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Bonnie M. Wongtrakool: Thematic approaches. Most of them are positive screening, although the normal space screening is more of a negative screening

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Bonnie M. Wongtrakool: But some of these positive approaches are the most quickly growing. So you can see sustainability themed investing that would refer to best in class or like the clean energy finder, the green bond fund that's growing that 92% globally my

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Richard Green: Excuse me money. Just a clarification 30 trillion

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Bonnie M. Wongtrakool: That's right.

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Richard Green: So the entire US mortgage market is 10 trillion. Sure.

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Richard Green: About three times the

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Richard Green: Size of the US mortgage market.

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Bonnie M. Wongtrakool: Correct. Although of course the 10 trillion refers just securitization right so if we included other things, then

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Richard Green: When a residential mortgage, a total securitized is like seven and a half trillion its total a little over 10 I just looked at the number of this morning.

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Bonnie M. Wongtrakool: Yeah, so

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Richard Green: Honestly number. I just wanted to

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Richard Green: Underline that so

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Bonnie M. Wongtrakool: Very true. Yes, it is. It's begun, and definitely growing, and I think that's why people talk about it more and more.

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Bonnie M. Wongtrakool: And why hasn't been growing. So they're really three factors that have driven driven the growth and I referred to how a lot of the global asset managers or the large ones at least

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Bonnie M. Wongtrakool: Are using this whether they're on the institutional side or elsewhere. And that's because it's considered material. And so when I was talking about the SG factors on the first page.

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Bonnie M. Wongtrakool: Those are all selected because their material to the performance of the company.

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Bonnie M. Wongtrakool: And those factors can vary depending on the industry that the companies operating in

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Bonnie M. Wongtrakool: Or the specific company itself. But the fact is there looked at it, not because of some charitable function, but because they have pertinent to the performance of the company.

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Bonnie M. Wongtrakool: And this belief that there's materiality of the issue factors has become fairly well accepted and that has been the biggest driver of growth in

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Bonnie M. Wongtrakool: The second factor is really client demand and there's two ways to look at that angle, I'd say. One is that there is an increasing number of retail investors who do want to have

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Bonnie M. Wongtrakool: Investments that resonate with their values and you've probably all seen these headlines about Millennials and how they want to have sustainable portfolios. But I think that there is, there are other generations to that are interested in this.

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Bonnie M. Wongtrakool: But also for more mainstream investors. Some of them do debate this whole short termism of management versus long term sustainability of their investments and they just want to understand, are they really

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Bonnie M. Wongtrakool: investing in companies that are have an eye towards long term sustainability and not just towards patting the executives pocketbooks, you know, for short term gains.

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Bonnie M. Wongtrakool: And then the third factor that's driven growth is really regulation. And many of you may be thinking, since we all live in the

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Bonnie M. Wongtrakool: Probably most people listening to this live in the United States.

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Bonnie M. Wongtrakool: What regulation because there isn't any regulation in the United States that supportive, and in fact, it's probably going the other way, especially if anyone has been following the Department of Labor and their proposed rule.

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Bonnie M. Wongtrakool: Around ESP. That was just released a couple of months ago, but I think it's helpful to look elsewhere outside of the US, especially in Europe as a model.

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Bonnie M. Wongtrakool: So Europe after they signed the European Union, I should say after they signed the Paris Agreement, they basically started putting into place different plans to be able to meet those goals.

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Bonnie M. Wongtrakool: And and part of this was planning for this new low carbon economy, which obviously requires financing last December and they also

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Bonnie M. Wongtrakool: Issued a or announced a new Green Deal. And that's a trillion dollars in investment that is again trying to help them push towards the Paris Agreement, but also become carbon neutral by 2050

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Bonnie M. Wongtrakool: And this plan is very comprehensive, it does things like layout a taxonomy for what types of businesses are environmentally sustainable.

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Bonnie M. Wongtrakool: It also sets out of green bond standard that's even more stringent than what's currently being used in the market. But importantly, it actually requires investors, basically, to explain

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Bonnie M. Wongtrakool: Why they're not using yesterday. If they're not using it, rather than the opposite in the US, which is explain to us why you're using HD. If you want to use this and people for one case.

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Bonnie M. Wongtrakool: So this phenomena in Europe has been going on for a while and the regulation, actually, I would say came after the investor desire to do it so it, but it has definitely helped to

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Bonnie M. Wongtrakool: Bring along those countries are those people who weren't bought into the idea of materiality, previous to that.

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Bonnie M. Wongtrakool: And we'll see that I think continue to spread. I think Australia will be very similar. I'm not holding my breath for the US. But I think when everything outside of the starts moving that way. You really do see this growth that that we saw on the last slide.

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Bonnie M. Wongtrakool: Now I talked on the first slide about green bonds and social bonds. But I wanted to give you a sense of

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Bonnie M. Wongtrakool: The growth in the market. And again, those green bonds are the ones where the use of proceeds has to be used for something that is green. So it might be an energy efficiency project or renewable energy.

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Bonnie M. Wongtrakool: Or it could also be something else relating to the environment like water usage and having clean water.

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Bonnie M. Wongtrakool: The social bonds are ones for social purposes they could be financing education. It could be affordable housing.

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Bonnie M. Wongtrakool: Things of that nature. And then there's a third category that's even more recent which is sustainable bonds and those have a combination of environmental and social use of proceeds.

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Bonnie M. Wongtrakool: So you can see it's been growing over the past five years. So that 2020 is obviously year to date.

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Bonnie M. Wongtrakool: And during the crisis when the market really tanked the markets froze up and the non USD part of the bond market came back faster so

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Bonnie M. Wongtrakool: There's a little bit of a lag there. But I think what to note is that it has been growing over time. Now what is outstanding is over a trillion

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Bonnie M. Wongtrakool: And the probably the most interesting trend is that the social bond component, which was fairly small unmuted before this year has grown quite a bit, because there is this interest in and need for social

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Bonnie M. Wongtrakool: Financing, given the problems and challenges posed by Cope of it and then the right hand side of the chart essentially shows what were the issuer's issuing these bonds come from most of them are actually European and the US is a fairly flat kind of

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Bonnie M. Wongtrakool: What percentage contribution, but it has picked up especially this year. I think that that will also continue

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Bonnie M. Wongtrakool: And we have seen quite a few reads, I'd say in the smaller us bond market have issued green bonds and

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Bonnie M. Wongtrakool: I think it's been helpful for them because it has increased their investor base. So they've been able to reach certain investors that probably wouldn't have looked at refunds before

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Bonnie M. Wongtrakool: And have actually traded better so it does help their cost of capital.

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Bonnie M. Wongtrakool: And I think other sectors are also catching up to that catching on to that. And so you see a little more diversification and the types of issues that are issuing green bonds of currently, although not so much in the social ones, those tend to be more from financial institutions.

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Bonnie M. Wongtrakool: And then I finally I just wanted to close up with the slide segment, at least, just talking a little bit about Fannie Mae, which

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Bonnie M. Wongtrakool: Is actually been a very active participant in the green bond market. So they actually started issuing green bonds in 2010 now they've done over 75 billion.

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Bonnie M. Wongtrakool: And at one point they were the largest US Green bond issue or that was in 2017 when they issued two thirds of the green bonds, then a smaller market, of course, but

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Bonnie M. Wongtrakool: They have been quite a pioneer in that this year. They've been pretty quiet.

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Bonnie M. Wongtrakool: Although I would note also that they've started to do a separate program for single family residential mortgage backed securities. So they've issued a handful of these bonds that are

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Bonnie M. Wongtrakool: The collateral is basically a single family housing that is energy star or better in terms of of their certification.

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Bonnie M. Wongtrakool: And I think they're trying to tap that part of the market again trying to diversify their investor base and we'll see how that takes off, but

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Bonnie M. Wongtrakool: But Fannie Mae has been kind of pioneering in this screen bond market here and it's a good asset class it's although it does trade, unlike the reeds it trades, pretty much.

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Bonnie M. Wongtrakool: Non green CBS

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Bonnie M. Wongtrakool: So those were the slides. I wanted to share. And I'm just going to stop sharing my screen and back to you, Richard.

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Richard Green: Okay, thank you. Well, I have a bunch of questions and I see we have two from the audience that I'll get to in a moment. And again, please anyone in the audience have a question to Bonnie type it into the Q AMP a box and I will get to it. Um,

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Richard Green: The first question you talk about Millennials desire to invest in companies that they're comfortable investing in, but you use the phrase retail investor and that's where it

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Richard Green: Made me think of following is most retail investors don't invest in individual stocks, they're investing in Vanguard funds.

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Richard Green: Are the mutual fund is the mutual fund industry developing green mutual funds and what do they look like if so

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Bonnie M. Wongtrakool: Yes, the answer is they yes they definitely have. It's kind of a lot in the ETF form. So there are a lot of ETFs that are basically index to ESP indices and typically these

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Bonnie M. Wongtrakool: Indices are based on third party ratings. So the biggest third party raiders are MSCI and sustain analytics. But, and the CI is the one that owns a an index business already, so you can guess who has these indices

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Bonnie M. Wongtrakool: And basically the s&p has an s&p PSG version, and there can be an ETF that holds those stocks that are rated highly

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Bonnie M. Wongtrakool: By MSCI. That's a very common form of it, but they're also ETF said, do some of those things like clean energy that I mentioned. I've seen gender funds now.

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Bonnie M. Wongtrakool: And all of those funds have grown a lot this year and again off slow basis low basis, but it has been notable that those funds have grown and gone inflows this year faster. I'd say their growth is faster than the non yesterday funds retail wise.

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Richard Green: So you met you mentioned that. Um, so I want to ask a couple of Fanny questions. One is, you mentioned that the green Fanny bonds trade on top of their non

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Richard Green: Green bonds. Um, do you think that there was a liquidity issue with them and that if there were just more volume, they might actually traded a small premium relative to

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Bonnie M. Wongtrakool: Yeah, that's a good question. I almost feel like it's maybe the opposite, in a sense.

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Bonnie M. Wongtrakool: Because there is no scarcity value. And so it's it's not it. I would say that the issuance has don't come that often, but you know, you can get one so that there's that

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Bonnie M. Wongtrakool: I think there's less scarcity value, then there would be an other corporate issues where, say for example you know Google just issued a green bond.

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Bonnie M. Wongtrakool: Two weeks ago, and that was very highly sought after. I mean, it was their first screen bond. First of all, and they don't also they have scarcity in general, they don't actually issue much in the market.

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Bonnie M. Wongtrakool: But I think that there's a little balance between you want to have the liquidity, but you also want to make it somewhat different.

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Richard Green: Well, so it's you think hard about sort of the underwriting of fixed income securities. Do you think that green bonds should treat all else being equal, should trade at a premium visa V other bonds.

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Bonnie M. Wongtrakool: I think fundamentally speaking, I would say that

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Bonnie M. Wongtrakool: The fundamentals should be pretty similar to a non green bond, I guess, let me take a step back record so should they traded a premium versus non green from the same issue or should they trade at a premium versus an issue or in the same industry.

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Richard Green: No, no. I mean, from that. So you have a you have the same issuer and, you know, let's say they're doing commercial real estate and some of their buildings are ENERGY STAR lead etc and other buildings are

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Richard Green: And that's the only difference between the two. Right. Would you expect the difference of the coupon on those two bonds or you expect them to be the same, right.

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Bonnie M. Wongtrakool: At the end of the day, you know, you want the credit itself, regardless of whether it's doing green or not green bond issuance you want it to be very solid. Right. So theoretically, I guess, fundamentally, you would want them to have the same value.

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Bonnie M. Wongtrakool: But I think because there is that demand from a different investor base of broader investor base with a focus on that greenness

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Bonnie M. Wongtrakool: It does tend to treat a little bit better. I mean, they're obviously exceptions to all this, but that has been the pattern and i don't i don't think that's unjustified frankly

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Bonnie M. Wongtrakool: I would say this is maybe a little bit on the liquidity point but

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Bonnie M. Wongtrakool: To the extent that an issue or has both three and a non green bonds, if there is a market downturn, or some type of outflows

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Bonnie M. Wongtrakool: They the non green bonds are more likely to be sold to raise cash to meet outflows then the not done the green bonds would. So in that sense, perhaps you could assign a tighter spread for that reason alone. I see.

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Richard Green: I mean, one thing is, um, there's been some really good work done by a couple of guys that Maastricht named Pete I colts and Neil's coke.

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Richard Green: That find that the performance of the buildings, the financial performance of buildings.

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Richard Green: With green features is better. And what they what they can't differentiate is, is it the greenest that makes them better or is, is there an association between greenness and quality.

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Richard Green: That makes them better. And it's nearly impossible to disentangle the two because bad buildings. Don't get green

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Richard Green: Treatments but in a sense, it doesn't matter. It's still up from an investor standpoint, it will still be a signal.

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Richard Green: Um, and you do see these buildings like trade at a premium relative to those that don't have these features and so that would suggest to me that they're just a safer thing to invest in, whether you're on the equity side or the debt side.

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Right.

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Bonnie M. Wongtrakool: I agree with your signaling thesis, because it does indicate that the company is for looking especially when you're talking about real estate, right, because

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Bonnie M. Wongtrakool: It doesn't necessarily pay off immediately. If a company is a building is retrofitted or something like that or if it has top of the line sustainability materials but

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Bonnie M. Wongtrakool: It indicates that this this issue, or is thinking about those considerations and the fact that leader on those types of things do matter either later on or currently they actually do matter. So there is a signaling going on that could demand a premium as well.

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Richard Green: So let's, I want to take you back Fannie Mae and I'm wondering what you guys think about and printing that engine may

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Richard Green: The fact that the cost of credit in Houston and Cape corral for homeowners is the same as it is in Ames, Iowa.

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Richard Green: That there really is no differentiation and the pricing of loans. A depending on the vulnerability of the location of the houses are you think about that much. And what what are your thoughts.

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Bonnie M. Wongtrakool: Yeah, I do think about that and I think about how that cost potentially in the future could be passed on to taxpayers. I think there has been a number of articles and commentaries written on that.

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Bonnie M. Wongtrakool: I think that the institutional investor base that bias the mortgage backed securities that hold that type of collateral. I think that

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Bonnie M. Wongtrakool: Now is become a lot more informed and I think that the pools themselves are either fairly diversified where you wouldn't be experiencing that type of risk.

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Bonnie M. Wongtrakool: Should it become should it materialize. So there's a bit of, I guess, efficiency from that standpoint. But when you trace it all the way back to the taxpayer unless we do see privatization, then I think it is quite relevant

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Richard Green: Why would even think from a standpoint of an investor you're worried about prepayment risk.

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Richard Green: And so if Houston gets blown down. I mean, if the guarantee is behind you. You don't lose on the credit, but maybe the money's coming back to you at a time when you really don't want it to come back to you.

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Richard Green: And that creates you know mismatch issues if you're, say, a pension fund during the insurance company and you're thinking about your obligations, the future.

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Bonnie M. Wongtrakool: Yeah, that's definitely true. But again, I think the diversification. That's where it sort of comes in and

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Bonnie M. Wongtrakool: You're not going to see as many of these hundred percent Florida pulls the way you did 10 years ago, I don't. I actually haven't checked because I've been

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Bonnie M. Wongtrakool: Not I haven't looked at a prepayment model in a couple years, but I would guess that there's probably not any more 100% Florida pulls being produced anymore. Maybe I'm wrong.

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Richard Green: Well, my guess is you're right and and the other thing I mean this is there's a long debate about mortgage backed securities about whether they should be transparent or not.

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Richard Green: And the idea is if they're not transparent and more liquid. Because if they're more homogeneous, in a sense, you're just counting on and that's how the TPA market works anyway, right, you're just stuffing stuffing as it comes through the pipeline.

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Richard Green: But at the end of the day, there is still sort of a and maybe it's a small impact, but it does seem to me that there's sort of a cross subsidy.

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Richard Green: From some parts of the country to the other.

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Richard Green: As a result in physically on the bailout. This is there are places that maybe shift slightly cheaper credit than they do and others that are more should be more expensive. Just as a way of discouraging people from developing in areas that are more vulnerable.

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Bonnie M. Wongtrakool: Right, although one would assume that at the lender level that the banks have gotten wise to this long ago and definitely the insurance companies to right. So you're seeing it priced properly by other entities just perhaps not the GCS

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Richard Green: Well, so, so, you know, it's funny. There's my colleague, Matt Condit of paper on this and it turns out there's a big time lemons problem, which is what banks are doing is

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Richard Green: The stuff that is more dangerous. You know, if they're in these markets at the stuff in the floodplain basically they're securitizing they're selling to Fannie and Freddie, and the other stuff. They're keeping on their balance sheet, which is, you know, yeah.

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Richard Green: So, um, let me turn to a few audience questions here.

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Richard Green: So first of all, a provocative question from Joel Bryant under the heading of social has Western asset recalibrated or restated their investment policies.

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Richard Green: As the result of the George Floyd killing an overall issues of racism in the US, perhaps this would be kind of hard to draw a circle around and isolate. I get that. But just curious as to your thoughts about

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Richard Green: How is George Floyd changed how you're thinking about things, if at all.

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Bonnie M. Wongtrakool: Right. It's been a terribly terrible's series of events right that's finally culminated in

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Bonnie M. Wongtrakool: The attention this year. So I think it's long overdue and it is an issue that investors of all kinds are really taking a look at

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Bonnie M. Wongtrakool: But I think the difficulty in trying to help with that, although certainly can help at the corporate level, it's more difficult to do on an investment level because we're

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Bonnie M. Wongtrakool: We lack the disclosure to really examine companies on that issue, to be honest with you. So let me just draw a parallel, which is around gender.

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Bonnie M. Wongtrakool: So, previous to this year, I'd say a lot of the focus of investor was around gender equality as opposed to racial inequality.

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Bonnie M. Wongtrakool: And this was many years in the making to and it took a lot of years. I think for us to get more focused on the female versus male representation in managerial roles and development.

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Bonnie M. Wongtrakool: Within company management, but there has been some progress, but it took a lot of time.

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Bonnie M. Wongtrakool: Having said that, there are a couple things that happened to help that there were some regulations and then there were more disclosures. Right. So not all companies even disclose about females and manage on on the board or females and management.

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Bonnie M. Wongtrakool: But some of them do. Many of them do. Certainly the large ones do. And that allows investors to examine where companies are where they've been talked to them about where they're going.

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Bonnie M. Wongtrakool: In contrast, if you look at racial diversity and equality, there's really not a lot out there when we're talking about companies.

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Bonnie M. Wongtrakool: As opposed to other types of data that we can get on the economy but company management and how they're actually managing their employees, there's not a ton of disclosures. Some companies do disclose about minorities and management.

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Bonnie M. Wongtrakool: But most of them don't. So that's data that we're looking at that we would like to have. So we can see who does report on who doesn't. I will say most of them don't.

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Bonnie M. Wongtrakool: And in order to even start the conversation as an investor. That's where you really

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Bonnie M. Wongtrakool: Need to be. And I think there's a lot of progress that needs to be made. First, and I hope that it does happen, but I would expect it will take some time, just like it did on the gender issue, which itself is not neatly solved either

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Bonnie M. Wongtrakool: But

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Richard Green: For Hire young people who have sharp eyes to just go through a financial reporting, see where the executives are find pictures of them online and try to get at least some sense of this. My guess is, I have a strong prior about the share of executives and large companies that are

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Richard Green: Not non Hispanic whites, but

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Richard Green: It would be worth taking a look. Yes.

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Bonnie M. Wongtrakool: It would definitely have to be manually done is the point and that would only get you the top tier of management, it wouldn't get you middle management and

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Bonnie M. Wongtrakool: We know from all the studies done on gender and I know there'll be an increasing number on racial as well. Now,

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Bonnie M. Wongtrakool: That a lot of the problem is about the pipeline right so you can have a regulation, like in California that mandates, you need to have one female

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Bonnie M. Wongtrakool: Member of the board. If you're incorporated in California, but that doesn't really solve the problem. It's helpful, but it doesn't solve the problem of who's inside the company and who's being developed to can become

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Bonnie M. Wongtrakool: A leader within the company and you need to start lower than just the board or just a sea level or who's on the website and see these are difficult problems that are going to take a lot of work, but we definitely need to address them.

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Richard Green: Yeah, the and, you know, the thing is there's there's becoming increasing evidence on on the gender side that women are really

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Richard Green: Better leaders than men are. I mean, if you look at like funds that are managed by women, they do better.

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Richard Green: Now there's a little bit of an issue of selection, there is to be a woman who gets that role. You have to be so much better than a man that

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Richard Green: Of course your returns are going to be better for example. So if you could somehow randomized. So you could have as many incompetent women isn't competent men and

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Richard Green: In various positions that you could really get it whether I'm not sure I believe that women are inherently better at running things than men, but it is much harder for them to get the same roles.

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Richard Green: And I'm reasonably sure that that's true of African Americans as well. There was a really interesting piece and Bloomberg, about a month ago.

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Richard Green: On black leadership of the Federal Reserve System to this point, there have been for black leaders.

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Richard Green: Three who have served on the Board of Governors in one who is the current president of the Atlanta fed Raphael Bostic and of course

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Richard Green: We're very proud of Raphael here because he was on our faculty for some years.

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Richard Green: What you read the qualifications of every black member of the Federal Reserve System black leader of the Federal Reserve System compared to their white counterparts. It's just an entirely different level.

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Richard Green: Of qualification and sort of the point are they graded their job. Yeah, because they had to be just better to get there. Right.

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Bonnie M. Wongtrakool: It's, it's very notable I've seen the same. And I would argue that for black women it's even harder for women of color so

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Bonnie M. Wongtrakool: And I know the Federal Reserve is starting to focus on this now. And I think that's very good. You know, we need all parts of the economy to focus on this, but

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Bonnie M. Wongtrakool: You know, to the original question of this attendee, you know, the company's a very good place to start. And we're just starting to scratch the surface on that.

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Richard Green: So let me remind the audience for questions, please type in the Q AMP a box. Our next question comes from Lamont Gibson and I think you sort of answered this, but I'm going to pitch it to you anyway.

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Richard Green: How does he SG policy effect taxation and enterprise and maybe way to put it is, are there any tax benefits or texts arbitrage is available. If you're doing yesterday.

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Bonnie M. Wongtrakool: Oh, I wasn't sure what the question meant, but are there.

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Richard Green: So that's my interpretation of it and I hope I got it right.

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Bonnie M. Wongtrakool: Um, there probably are. I mean, I'm not totally well versed on this, but I would guess that you know there are

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Bonnie M. Wongtrakool: Tax incentives for affordable housing and we've I think this audience will probably have varied opinions on the opportunity zone.

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Bonnie M. Wongtrakool: Regulation, but you know there are certainly those things out there to support certain social goals and we have also seen in the past subsidies for solar panels.

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Bonnie M. Wongtrakool: And those have come and gone and and same thing for EBS so it's woven in there. And I actually think that that's probably necessary for certain

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Bonnie M. Wongtrakool: Practices that probably wouldn't happen as quickly as they need them them to be if just left to the market. So if we talk about solar installation or

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Bonnie M. Wongtrakool: Electric vehicles, you know, those are things that probably need a little help from tax taxation, whether it's tech tax credits or other types of incentives.

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Bonnie M. Wongtrakool: And those can be helpful I think tools for policymakers to try and advance some of these practices that probably wouldn't be taken up independently as quickly as we need them to be.

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Richard Green: So, can I come back to you and your role at Western asset and ask a little bit so you did a wonderful job describing what he SG is and I was very clear and straightforward. And I think our audience really appreciates that

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Richard Green: But from the standpoint of W ways a decision making process, where do you enter into it. How do you end without giving away trade secrets, of course. But how do you enter into that process.

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Bonnie M. Wongtrakool: Right. So the way that he is, she is enters our investment process is really an a few various phases. So when we're looking at a portfolio from the beginning.

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Bonnie M. Wongtrakool: It's about the client and what they want. Right. So remember when I was talking about SRI. Those are client dictated right the client is going to say, I don't want to back or I don't want to invest in

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Bonnie M. Wongtrakool: You know fossil fuels or whatever the case may be. And we're not going to for many judgments of our own. We simply implement what that client wants their

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Bonnie M. Wongtrakool: Or the client may want something that's very easy focus and they want to avoid or have special scrutiny on something like forced labor. And so we want

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Bonnie M. Wongtrakool: To address that very well within their portfolio and provide them with analysis and research that supports that when we're looking at different credits for them.

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Bonnie M. Wongtrakool: But I'd say both of those again refer to more of the thematic approach when we're talking about just general integration where you see would enter is really at the sector and the issue or level.

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Bonnie M. Wongtrakool: So there's sexual considerations that are issue related

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Bonnie M. Wongtrakool: Whether its energy or autos or every sector has something, but some have more than others. Where as a sector itself that is influencing your view on that sector in your outlook for that sector.

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Bonnie M. Wongtrakool: And then you go down another level and you look at the issuer's within all the sectors and their practices and their risks, you know, again, often it's

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Bonnie M. Wongtrakool: A governance related matter because that is very important for bondholders, but it can be other things too.

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Bonnie M. Wongtrakool: And there's a dialogue that goes on between the research team and the portfolio managers, where we are talking about these issues and discussing them and debating them.

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Bonnie M. Wongtrakool: So there are some people who are focused on USD and others who are generalists. And there definitely needs to be that dialogue going on.

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Bonnie M. Wongtrakool: So for example, we were just recently talking about a mining company and their involvement.

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Bonnie M. Wongtrakool: In thermal coal. And so there's a debate about that because we had some somewhat conflicting numbers about their involvement in thermal. Cool. So there's a dialogue between myself and

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Bonnie M. Wongtrakool: Another eg specialist and then the sector specialist. We were, we were trying to ascertain the risk of that issue or to ongoing thermal cool involvement.

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Bonnie M. Wongtrakool: So it's a very collaborative effort where we are looking at it. I'd say mainly at the sector and issuer level, but it is something that feeds into the portal, no matter what type of mandate that it is

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Richard Green: So, um, we've talked a lot about the end, yes, but not that much about the G yet so on governance. What are some flags that you look for where you say that there's really something to worry about here in terms of how the company is covered

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Bonnie M. Wongtrakool: Right. Some obvious ones would be around the access to management. So we're not a small firm we have 470 billion.

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Bonnie M. Wongtrakool: And and we do have good relationships with management. But if we see that management is pulling back on their communications with us or not being responsive to certain questions, no matter what the question is really about that is definitely

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Bonnie M. Wongtrakool: A red flag or if they're changing the frequency of the reporting. So they're giving information less frequently than they were before. That's definitely a red flag to

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Bonnie M. Wongtrakool: And then one can understand just the human element of it. I mean, it's going to sound kind of strange and Lucy, Lucy, but being able to talk face to face with management about something that was on paper.

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Bonnie M. Wongtrakool: But having them actually say it and asking them questions about it, whether it's their plans to do leverage or whether it's something that is specifically ESP related

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Bonnie M. Wongtrakool: There's a fair amount of assessment that goes on there to that I think

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Bonnie M. Wongtrakool: That there is an advantage to being able to speak face to face with an issue or about any type of issue to gauge really their credibility and in their experience. So it's a bit of a soft topic I'd say, in many ways, governance, but it's essential for sure.

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Richard Green: What about, um, I mean financial reporting, are you, you just comfortable with gap standards is being sufficient to make judgments about governance, or do you want more.

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Bonnie M. Wongtrakool: Well, I think there's a fair amount of non gap reporting going on, do right so we could talk a bunch about that but

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Bonnie M. Wongtrakool: Do we want more. I mean, there's always more right that that one could ask for from a company and how they do things. And so that's where it really does come down to the conversation about

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Bonnie M. Wongtrakool: Certain things that look like they've changed in a direction that you didn't anticipate or by a magnitude. You didn't anticipate

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Bonnie M. Wongtrakool: That's analyst role to kind of dig into that and see, okay, is this really reflecting the true health of the company and their real path forward is this obscuring some of the risk that we wouldn't otherwise see and just if we just looked at the numbers.

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Richard Green: So I assume you Western outside invested commercial mortgage backed securities and there are a couple of guys down at Texas who just did a

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Richard Green: really terrific paper that was released a couple of days ago on the overstatement of noi, and the CMT s offerings. So you look at

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Richard Green: What is this the noi, the previous year before refinance.

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Richard Green: What is it the following year. And in a very large share of cases they claim it's going to go up by 10% well you know if you have leases in place and so on. It's really hard to imagine that

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Richard Green: Um, and so what they did is they actually looked and yeah the income did not go up by 10% fact they they overstate it by 10%

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Richard Green: And this wasn't like I mean, normally, you're gonna have a distribution of errors and these things right, but it was sort of the systemic over reporting of income across CMT s space and that strikes me as an example of a governance problem.

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Bonnie M. Wongtrakool: Definitely, I think I read about this. And a lot of those loans had gone into conduit deals, right, which

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Bonnie M. Wongtrakool: Yeah, so that is a difficult thing just us out, right, especially for an institutional investor that's buying this diversified pool of assets you know you need to drill into each of them and you need to know about the underwriting

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Bonnie M. Wongtrakool: Of each of those loans. I mean, that's, that's where you really need to have that boots on the ground analysis.

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Richard Green: So I monkey up. So that's another question which is what recommendations would you offer for those of us that are concerned about cult of lip fitting the black, excuse me, cultivating the black talent pipeline. I'm presented with respect to both hard and soft skills.

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Bonnie M. Wongtrakool: Yes. So I think with the pipeline, we need to start a lot earlier than the company, right. So it has to start

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Bonnie M. Wongtrakool: Early Education and I that's probably not something that any of us can address by ourselves, are very well given where we are. But, but, obviously, that's the first problem, but

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Bonnie M. Wongtrakool: Once we get past that I think just getting college students of color just aware of opportunities and getting them connected to that and having the awareness. I just use finance as an example because

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Bonnie M. Wongtrakool: At least until now or traditionally, I don't know what it's like for young people today, but when I entered finance, a lot of the people in finance came from families were

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Bonnie M. Wongtrakool: Usually the dad and I was gonna say the parents, but usually the dad was

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Bonnie M. Wongtrakool: Involved in finance and they talked about at the dinner table, they kind of heard the lingo. They knew what their dad did. It was kind of interesting to them. For that reason, or at least something familiar

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Bonnie M. Wongtrakool: There are a lot of people like that. And then you could argue that that happens in other

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Bonnie M. Wongtrakool: Professions as well. But I don't think it happens as much in something like medicine where everybody knows what a doctor is they've been going to that their whole life but finance is just as kind of opaque thing and

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Bonnie M. Wongtrakool: And as we know, most Americans, no matter what their age don't even know about personal finance, let alone actually working in finance. So there's just this need, I think, to

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Bonnie M. Wongtrakool: Get people when they're young, a little bit interested or at least informed, so they can think about perhaps entering finance.

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Bonnie M. Wongtrakool: And then once they've actually entered finance or whatever, I'm making this particular finance. We don't have to, once they've entered a company

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Bonnie M. Wongtrakool: It's really important I think to have meaningful mentorship and sponsorship and I think it loses two different things, right, because

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Bonnie M. Wongtrakool: The sponsors, the one who can elevate you in the company. If you do well right there. The person who will advocate for you and help you to advance but that sponsor may or may not be your mentor.

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Bonnie M. Wongtrakool: But you absolutely need a mentor. There's someone, you just want to be able to go to just to figure out how to do things, especially when you're young.

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Bonnie M. Wongtrakool: In your career and you don't really know how these things work and say your first generation or something, you're probably not going to have anyone else that you can really ask right

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Bonnie M. Wongtrakool: So companies, I think, are trying to formalize this Western We're definitely trying to do that too. But there hasn't been this magic formula where it's like, Okay, you just do XYZ, these are the steps and you have a good mentorship program. Those are all still being tested out

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Bonnie M. Wongtrakool: And, and I think that's a big element. And I think, sorry to jump around. But even to backtrack about the recruiting

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Bonnie M. Wongtrakool: You know, I think, since it's the person that asked about skills to that's hard. Also, right, because we have to balance between recruiting

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Bonnie M. Wongtrakool: In non traditional places, maybe, but we also want to ensure that that person has potential if they don't already have the skills, but they have the potential to develop the skills. These are really hard questions right

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Bonnie M. Wongtrakool: But they need to be. We need to attempt at least to try different ways to address them see what works in order for any of this to to move forward.

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Richard Green: I want to amplify a point you made about making people aware of opportunities when they're in high school.

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Richard Green: And just note a program I participated in last year was you allies urban plan, which brings a real estate curriculum into high schools.

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Richard Green: And we did it with alliance tech, which is in Lincoln heights last year and I participated in that I had a lot of fun teaching high school students. I hadn't done that before.

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Richard Green: But what was so striking to me was there were people there who had no idea that they could own a property in their neighborhood.

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Richard Green: That there's a possibility that they could acquire a four unit building in their neighborhood, get a FANNIE MAE LOAN do it.

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Richard Green: rented out fix it up. They didn't at that level. It didn't see that opportunity. And so just making those kids aware that this is a thing that they can do I find it very rewarding thing.

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Richard Green: So a little bit. We're not doing it this summer for the obvious reason we're so we're trying to convert it into a covert or online program right now.

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Richard Green: But this audience, in particular, I would invite anyone who was interested in participating. To do so, because again, just planting that seed.

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Richard Green: In the minds of 11th graders, I think, is going to be a really important part of this process. So I forgive me for the the advertisement there for a minute or two.

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Bonnie M. Wongtrakool: But I

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Bonnie M. Wongtrakool: think a great example. I wasn't aware of that program that's that's fantastic.

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Richard Green: So, um, well I'm Bonnie, thank you very much for this very informative conversation again. I'm sure our audience really appreciates the clarity. Can you share your slides with the group for you or if we post it on

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Bonnie M. Wongtrakool: get permission and then

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Bonnie M. Wongtrakool: Internally, and then I can do. Yeah.

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Richard Green: Yeah yeah that's that's always the answer. But yeah, I didn't see any state secret son those slides that and again very clear delineating things. Our next

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Richard Green: Less perspective series will be next Thursday, August 20 where we'll have nila Richardson, who is with Edward Jones. You may remember nila we've had her back when she was the chief economist at Redfin a

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Richard Green: Real cloud crowd pleaser. People have always enjoyed her presentation so 11am next Thursday, August 20 nila Richardson, we hope you will join us again funny one trick. Cool, thank you very much for being with us today.

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Bonnie M. Wongtrakool: Thanks for having me, Richard. Okay.

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Take care.