ESG: How do fund selectors cut through the greenwash of gradualism? (Part 1)

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In the first of a two-part insight, Jon "JB" Beckett, director emeritus at the Association of Professional Fund Investors, Transparency Task Force ambassador, and author of #NewFundOrder, shares insights on the emergence and threat of greenwashing to the investment industry, as outlined at his recent Ethical Finance Hub seminar.

In a recent Morgan Stanley survey of institutional investors, 70% said they are integrating sustainable investing into their investment process, signalling just how quickly the environmental, social and governance (ESG) imperative is catching on. Despite this the ESG narrative is dominated by asset managers and NGOs. The Ethical Finance Hub team felt that it was important to provide a perspective of the often unheard, yet highly influential, asset owner.

Asset owners - pension funds, endowments, foundations and other large institutional investors - are embracing sustainable investing and viewing ESG factors as a way to proactively manage risk and returns. Of the $22.8trn invested sustainably, or $1 in every $4 under professional management, institutional investors own nearly 75% (Global Sustainable Investment Review 2016).

Integrating ESG into slection, appointment and monitoring fund managers.

My recent masterclass for Ethical Finance Hub was an opportunity to share practical experiences, case studies and discuss the problems in creating policy, dealing with key issues, persuading colleagues and decision makers and implementing fund manager selection, appointment and monitoring. Specifically how to engage asset managers in respect to sustainability and responsible investing. Understand how ethical aims, ESG and SDGs effect different asset classes and fund strategies and possible solutions to creating or improving a responsible investing framework

Having retired as an asset owner myself, I wanted to put together a course that discussed my experiences, mistakes and challenges and to share experiences with other practitioners. In my workshop we looked at applying SAM frameworks into assessing specific asset classes (growth equity, value equity & fixed income strategies, property and infrastructure funds, multi-asset funds and green finance and impact). It was apparent that there cannot be an ‘one size fits all' approach to different asset classes. This was brought to life through a series of powerful video case studies where delegates were invited to not only consider the topic in question but how your personal views, as an asset owner, can lead to tipping points. To know and assess asset managers needs first for the asset owner to understand themselves.

All the while consider what drives the psyche of the asset owner to; be ethically minded, react to change, interpret existential risks like climate change. This is key to how asset owners will progress or resist the agenda. That sense of morality and fiduciary duty and whether this will drive owners more towards ESG or more towards values based, socially responsible or what we can more simply distil as ethical investing.

Moreover where is the political narrative taking us, is it towards ESG or ethical investing? Indeed does it matter? Are distinctions becoming irrelevant? This can leave asset owners confused in both policy and action. Right now asset owners are facing some real challenges to understand what direction they should adopt. I enjoyed unravelling this with attendees.

Let's note there is still a significant issue in the asset management and pension industry, one of remoteness between the issuing company invested, the asset manager, the asset owner and the end investor. Asset Owners have often confused a lack of engagement with customer apathy on key issues.. as many assets are long-term legacy or arise from employee benefits scheme then a resistant culture towards change prevails. Yet increased prescriptive regulation has led to asset owners becoming inert rule takers rather than progressive values based innovators.

The problem with that being asset owners become reliant on asset managers and investment consultants to inform their approach and that's okay to a point but it does create a strange feedback loop in the industry. I will not attempt to capture all developments and legislation occurring, which are fluid, but rather identify the key changes that should inform asset owners as to their responsibility. To name a few;

  • UN Sustainable Development Goals
  • UN Principles of Responsible Investing, to which you or most of your asset managers are now a signatory; PRI sets down the minimum expected thresholds for the selection, appointment and monitoring of asset managers (SAM)
  • EU High Level Expert Group on Sustainable Finance; attempting to harmonise definitions and standards for green finance
  • ISO 14001, Environmental Systems standards for company operations; a useful but much underused shortcut by asset owners
  • UK Law Commissoin Reviews on fiduciary duties of asset owners
  • UK Department for Work and Pensions Consultation on Trust Based Schemes and incorporation of ESG in the Statement of Investing Principle; this has had a profound effect on trustees and their advisers, investment consultants
  • Band of England Climate Hub for banks and insurance companies; following on Prudential Regulatory Authority consultation for banks and insurers
  • UK Financial Conduct Authority Consultation for asset managers and advisers; this is driving integration into fund management and suitability processes for financial advisers

"Sustainability" becomes a shorthand for much wider social conscience and the climate, it is a platform that ethical asset owners can build on to ask searching questions beyond and including climate risk. Yet many committees and boards remain ignorant to their existing responsibility, and politicians and regulators are removing that decision from them, impatient as they are for change, and now enforcing an expanded interpretation of an asset owners's fiduciary duty.

Consider then your colleagues, bosses, stakeholders. Reflect on their views and also whether there is sufficient sight, awareness and discussion of the new regulations incoming.

Is the ultimate destination for ESG simply social responsibility and values based Investment?

Consider the taxonomy of terms that confront an asset owner today: ethical, faith-based, ESG, VBI, SRI, green, CESR, social impact, SDGs, responsible investing. In many ways our collective rush to describe the problem has become itself the problem for asset owners trying to convince colleagues, boards and committees by presenting a clear strategy.

Consider if an asset owner evokes any divestment or positive impact policy then they may have the stepped across the line into values based investing. We can observe many such examples today.

Investment strategies which select holdings on an "exclusion only" policy should no longer be labelled sustainable, according to Dutch asset management group Robeco. In a paper looking at ways to combat greenwashing, Masja Zandbergen, Robeco's head of ESG suggests that strategies which use exclusion as their primary investment section tool, are not sustainable.

"Many believe energy companies are both a problem and solution," Zandbergen wrote. "Investing in these companies and engaging with them might be a better way of creating change."

In comments accompanying the paper, Zandbergen said that investors needed to adopt "integrated thinking" if they are to avoid corporate greenwashing. This, she said, means fund managers should not operate sustainable investment teams, which are separate from the main investment operation.

"A fund provider is no longer credible if they provide a few very good sustainable investment funds, but are not doing anything in their products or own operations," Zandbergen said.

For further information on the Ethical Finance Hub, click here: