How SDG funds grapple with moving goalposts

Jonathan Boyd
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How SDG funds grapple with moving goalposts

Philip Ripman is manager of the SPP Fonder SPP Global Solutions fund, a Ucits compatible equity fund that targets companies contributing solutions to environmental and social objectives as defined by the United Nations.

Investments made by the SEK5bn (€472m) strategy (including the Storebrand Global Solutions fund) also follow the sustainability objectives of SPP and its parent Storebrand Asset Management. This includes includes avoiding companies that are deemed to be in breach of human rights, employment and civil rights, or engaged in corruption, serious climate and environmental damage, munitions such as antipersonnel and nuclear weapons, or tobacco. Companies are also avoided where they derive more than 5% of revenues from production or distribution of fossil fuels, weapons, alcohol, gambling or pornography.

Running such an approach is not straightforward and hidden issues need to be understood from a risk management perspective, Ripman suggests. 

For example, in Japan there is an issue around coal power plants and financing. This points to hidden exposure to coal in Japan's banking system. It is also the case that ‘sustainability' in 2019 is not the same as deemed in 2012 when the strategy was first made available.

"The context was different, the market different and the data different to today," Ripman says

"The fund has evolved around the discussion on sustainability."

COMMON LANGUAGE

Today, the UN SDGs provide a preliminary framework, which not only sets out a ‘common language' and understanding of where sustainability is headed and the challenges faced, but also represents capital flows needed to deal with these challenges.

There are four specific themes addressed by the fund: climate, responsible production, empowerment, and sustainable cities. Each of these themes can cross multiple SDGs. And there are three sub-themes to each: are they complementary, are they necessary - anchored in SDGs - and are they supported by regulation.

An example of how the themes play out is in the area of climate change and renewables. This is not just about companies such as Vestas making wind turbines or solar operators, but also a company such as TPI Composites.

"If you believe wind power is growing globally or regionally, then TPI Composites supplies the majority of blades that go into wind turbines. Companies can benefit from capital flows to these areas," notes Ripman.

In terms of empowerment, which is more of the ‘S' in ESG, there are three factors required to achieve greater levels of empowerment globally, which includes: access to digital services, access to financial services and access to health services - less than half the world's population has access to basic healthcare services, Ripman notes.

Again, this is anchored in the SDGs, where, for example, neonatal and maternal health is targeted.

TRENDS

Discussing longer term trends, Ripman points out that there is "not going to be less solar power in five years".

And in wind power, Japan is looking at offshore wind because of the energy crisis linked to the Fukushima nuclear power plant disaster, which has seen higher electricity prices transferred to the consumer. There is a need to find solutions.

"Regardless of the way the world develops, to a certain extent these are long term trends not being greatly affected in short term," says Ripman.

"There will be months when we perform badly, but on the overall objective, these are long term trends and there are companies positioned for them."

BIAS TILT

Although the fund uses the MSCI All Country World Index as its benchmark, there is a small cap tilt in the fund, Ripman notes.

This is seen as the result of looking to more pure play oriented companies that are more impactful in the totality of their operation. That said, for a fund to function there also has to be a certain level of liquidity, and hence need for some balance between the market cap sizes, Ripman adds.

"I agree with idea that large caps have the potential for more change through their R&D budgets. Some companies on the digital side have the capacity to build out things quickly with the muscle that their big cap positions has."

But it still means looking for large cap with anchors in the SDGs, and the themes Ripman is looking to address in the fund.

GICS

Reference to SDGs is also having an impact on diversification between Global Industry Classification Standard (GICS) sectors.

As a ‘fossil free' fund, there is an implication for SPP Global Solutions in regards to GICS sector 10, Ripman says. This ‘Energy' sector includes oil and gas exploration, refining and transportation, as well as coal. And it means that, for example, parts of GICS sector 55 - Utilities - may need to be taken out as well.

However, it also needs to be remembered that companies are in a transition period that could happen slowly amid regulatory and political quagmire. There are some restrictions on the industrials the fund might consider. And then it depends on where the solutions companies come in.

The fund is overweight industrials, because of the solutions companies derived from that sector. It is slightly overweight telecoms, and utilities - where it is  picking green energy companies.

There are no active restrictions on GICS sectors, but they may be less interesting from the point of view of the main themes of the fund - it is hard to fit oil and gas into those themes, although that is not to say that ESG themes are not relevant to oil and gas per se.

Ripman also points to what he describes as the elephant in the room: overproduction of oil relative to the Paris Agreement, which may be an issue in regards to Social Development Goal 13, which refers to Climate Action.

"I want to have a fund anchored in the SDGs and companies providing the relevant goods and services," Ripman says.

He expects evolving focus on what to do about the challenges.

He suggests that ESG has traditionally been focused on, for example, reducing emissions year on year, or water intensity, or things that companies can measure on a year on year basis.

But what is missing, he feels, are the actual products and services, and the actual impact those products and services have on society at large. There are a lot of companies coming through that understand their impact on the world around them.

The data is coming through. And in the European context, the taxonomy on sustainable finance is coming through from the European Commission.

"This will force companies to talk and think about their impact in a different way than they did previously," Ripman says.

"There are many small companies much more concerned about the ‘why' of their existence - as time goes by, we will see more of those companies come on through."

 

DRIVEN BY DEMAND

There are likely to be ongoing changes to both the investment themes covered by funds targeting SDGs, as well as reflecting changes in investor demand.

Philip Ripman suggests that education, especially education of girls, is one of the themes he would like to look more closely at, but is not yet mature enough as an investment theme to engage with; there are few companies that enable exposure to the topic in a way that makes sense, he says. But themes such as these will mature over time, he argues.

In terms of investors, the experience he has in the Nordics suggests that Sweden as a market has come furthest in terms of specific demands. Norway is "a bit behind" but moving in the same direction. Denmark is moving along the sustainability curve albeit being a bit behind Sweden and Norway, he feels. Meanwhile, the UK, another market that Ripman has experience of, is finally getting past the discussion of fiduciary duty, with, for example, requirements to show how long term savings are being dealt with from a climate perspective. Similarly, municipalities throughout Europe are being forced to show how they are dealing with climate change.

Jonathan Boyd
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Jonathan Boyd

Editorial Director of Open Door Media Publishing Ltd, and Editor of InvestmentEurope.