The number of fund managers pushing clients to embrace environmental, social and governance investing has increased in recent years.
Asset managers claim that environmental factors like climate change, social factors such as human rights, and governance factors such as executive remuneration now form an important part of their investment decision-making, arguing that evaluating investments against ESG metrics enhances returns over the long-term.
Sceptics, meanwhile, say ESG measures are, at best, irrelevant, or, at worst, harmful to returns as they prioritise ethical idealism. A recent report concluded that the sceptics, are losing the battle, however.
A survey of 500 institutional investors from around the world, conducted in 2017 by fund manager Schroders, found that just one in five investors “did not believe” in investing sustainably. In Europe, this was even lower at 15 per cent.
While sceptics are now in the minority, concerns about the implementation of these strategies persist. The same Schroders survey suggested that more needed to be done for investors to completely understand ESG investing as a process. It found 44 per cent still had concerns about performance and 14 per cent said their investment committee remained uncomfortable making allocations to sustainable investments.
Asset managers with a lengthy track record in this area say ignoring ESG approaches can jeopardise returns and potentially leave pension schemes with difficulties matching liabilities. A report by the trade group representing British pension schemes found that trustees were also coming around to the same way of thinking.
A March 2018 report, Impact Investing, by the Pensions and Lifetime Savings Association and Hermes found that there are two reasons that pension schemes embrace ESG.
“They wish to increase the prospect of stable, long-term,
value for their members, and they believe that sustainability factors materially influence the risk-return profile of their investments,”
This consensus is good news for those fund managers who have lent heavily on their sustainability credentials in marketing materials in recent years. Among those that have established themselves as ESG specialists are Robeco, Hermes and Impax Asset Management.
In an interview, Robeco head of ESG integration Masja Zandbergen, said the company has been engaging with portfolio companies for more than 12 years and their ESG approach is key to the company making better returns.
“Our mission is to provide our clients with superior investment returns,” she said. “That has led to us focussing on integration and engagement as a base line. All of our funds integrate ESG into the investment process with the goal of getting better investment returns.”
For the broader asset management industry, the increasing popularity of ESG investing has come at a convenient time. Fund firms are being squeezed on cost and have been in the media spotlight over the charges they levy on investors and bonuses paid to staff.
Having an ESG approach, therefore, which involves researching companies and engaging with management, offers asset managers a way to show they are earning their keep.
But, as greater numbers of fund firms claim to be embracing ESG approaches, the need to scrutinise these techniques has grown too.
“Everyone is jumping on ESG investing now,” says Zandbergen. “On one hand that is very good, because more assets will be invested sustainably, but there is the risk of greenwashing and not having enough knowledge.”
Delivering on promises
Investment consultancy Lane Clark & Peacock’s Responsible Investment Survey asked 120 fund managers to outline their investment approach in relation to several topical ESG issues: climate change, water scarcity, fairness of workforce pay and boardroom diversity. Fund managers were asked to detail their approach with investee companies and outline their dialogue with regulators and policymakers.
Alarmingly, the pollsters found that only around one third of managers were able to give a “moderately detailed description” of their approach or “provide a good example”. The LCP report concluded that “answers were surprisingly weak”.
An area where fund managers appear to perform better, though, is when it comes to voting at shareholder meetings. The LCP report found that equity managers exercise almost all of their votes, voting 97 percent of the time on resolutions.
Fund manager voting, and broader engagement, has had some far-reaching implications on the global stage, too.
Passive fund managers BlackRock and Vanguard made headlines last year when they secured agreement from two major oil giants to change their climate policies to include a comprehensive assessment of how climate change impacts their future business models. Then, in December, Bloomberg reported that BlackRock– the world’s largest asset manager by assets – had written to around 120 companies urging them to do the same. But the success of recent lobbying and voting efforts might have raised expectations from pension fund trustees, according to those in the industry.
Schroders head of sustainable research Andrew Howard says investors now expect much more from their fund managers than they did a decade ago.
“A decade ago, ESG investing conjured up an image of ethical exclusions,” he explains. “While that is still an important consideration for many of our clients, there is a real recognition that the role of ESG spreads far wider.”
Howard says that companies need to build sustainable businesses and, unless investors focus on identifying the winners, they will find returns increasingly more difficult to find.
For advisers to corporate pension schemes there is a tightrope to be walked, which balances the ESG attitudes of the corporate plan sponsor with those of the members.
“Practically every scheme I know now offers an ethical option,” says Xafinity Punter Southall senior investment consultant Danny Vassiliades. “The difficulty is defining what that ethical option does.”
Vassiliades says that some plan sponsors exclude investments in companies profiting from tobacco, defence spending or pornography, while others want a policy of active engagement to improve the corporate behaviour of these firms.
“The difficulty is understanding how important these issues are to the membership,” he says. Pension schemes that decide to adopt an approach of active engagement may also face additional choices, according to Vassiliades, based on the types of fund that they have within the pension plan.
“If your fund choice is for a passive fund, you are going to get a certain level of engagement, but it won’t be very much,” he explains
Chase De Vere certified financial planner Patrick Connolly agrees, but notes that all company pension scheme stakeholders need to be convinced of the merits of ESG before deciding on the approach.
“Most investors and employers probably don’t even know what ESG stands for, let alone whether it is an approach they should
use with their own, or their employees’, investments,” he says. “There must be a genuine belief that ESG investments can provide superior returns, or at the very least not increase the risk of inferior returns.”