Most CEEMEA Oil & Gas (O&G) and Metals & Mining (M&M) corporate bond issuers have done surprisingly well during the COVID-19 pandemic by improving liquidity profiles, cutting costs and protecting operations from interruptions, among other measures. Apart from the strong commodity markets, many issuers continue to benefit from the ongoing weakness of local currencies, which supports their profitability and free-cash-flow generation. Even distressed high yield frontier market credits managed to stabilize and strengthen their balance sheets by engaging in asset liability management exercises, supported by record-low borrowing rates and strong market demand for high yield paper. With ongoing strength in commodity prices and our positive view on oil and metals for the second half of the year, we believe that CEEMEA O&G and M&M credits are currently well positioned from a fundamental standpoint.
On the environmental, social and governance (ESG) front, we also see improvements such as an increasing ESG and environmental awareness. For example, most of the key O&G and M&M companies now disclose Scope 1 and Scope 2 emissions, while an increasing number of companies have started disclosing Scope 3*, which is particularly important for O&G companies, whose emissions largely come from combustion of oil and gas. Further, we observe a new, emerging trend among issuers: to de-merge high carbon-intensity assets to improve their environmental profiles.
We expect to see increasing pressure from investors on the commodity sectors, particularly on O&G companies, not only to disclose their carbon footprints and formal ESG policies, but also to produce plans, details and targets related to the transition to a net-zero emissions economy. On our side, we have been engaging with CEEMEA companies, asking them to share greenhouse gas (GHG) reduction targets, aligned with Paris Agreement.
Going forward, we will be looking to see how companies use their recent fundamental success and the strong commodity cycle. Specifically, will they:
- Boost shareholder returns (higher dividends, buybacks)?
- Engage in M&A deals to grow in their segment?
- Deleverage further (approaching zero gross debt in some cases)?
- Increase environmental-related capex spending and develop concrete action plans aimed at GHG reduction/transition to a net-zero emissions economy?
As things stand, we believe that the private sector could carry most of the decarbonization costs, and that the currently favorable fundamental environment offers an excellent opportunity for CEEMEA commodity issuers to use today’s credit strength the right way, focusing on the “E” in ESG, which will enable them to continue to have access to funding as well as meeting their net-zero emissions targets, thereby creating a wider investor base to support them through this transition.