What’s behind the explosion in responsible investment, and what’s in front of it?

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The sector has grown massively: what happened, why, and will it last?

by Hugh Wheelan | June 4th, 2018

The RI Europe 2018 conference starts tomorrow (June 5).
Thinking about how to ‘open’ the conference as its Chair is always a moment for me to reflect on where I think responsible investment is at. And I believe we are at a hugely exciting, interesting, significant, and potentially problematic juncture.

Clear enough? It’s hard not to be overwhelmed (both physically and emotionally) by the amount of interest now in responsible investment. It has exploded. As we pass 700 attendees at RI Europe – with many new faces – I think back to the number of panels I sat on at the fag end of investment conferences (with many of you…) where the speakers on the podium regularly outnumbered the audience! No longer.
We are mainstream now, apparently. Or at least, as journalist peers tell me, we have become ‘fashionable’. There’s nothing like being damned with faint praise….

These days, the editorial team at RI is called by lots of public relations professionals (some of whom we haven’t heard from in years) eager to vaunt the ESG credentials of their fund manager clients; many of whom have been “doing responsible investment for decades”. I regularly hear the line at conferences now that ‘sustainability goes hand-in-hand with investment’. Who knew? Well-honed cynicism (20+ years of journalism) rears its head…. “After the war ‘everyone’ is a member of the resistance,” as they say in France. What does it all mean? Why and how has it happened?

It’s not just me. Asset managers themselves are trying to work it out. They, after all, are the ones being called on to justify their ESG integration – as much in the public sphere these days, as by their clients (where I would argue that there is still a dearth of real pressure). But let’s stay positive.

After some serious data crunching, managers now regularly recognise that ESG research is a driver of performance and risk control if done seriously by investors over meaningful timeframes. I was reminded of an interesting paper put out late last year by Nordea’s mainstream equity research team that worked through the data on how strong ESG performance in companies contributes to risk mitigation, and is also an indicator of strong operational and share price performance. In addition, the quants point out that ESG ratings are, surprisingly, uncorrelated with the factors they study, which could make them an interesting addition to factor-based and smart beta investment strategies. There are many such investment papers now. As I’ve noted before, similar data crunching is throwing up interesting nuances in the value proposition for ESG integration into bond investing. Materiality in investment is complicated, both financially and sustainably. It needs much more relevant data and research, which is now being financed. That’s exciting.

However, outside of the growing body of empirical evidence, we still have a ‘definition’ problem. A short, interesting paper was recently published called lost in translation-in search of authenticity in ESG integration by Ulrika Hasselgren, Head of Sustainability & Impact at Danske Bank, Bonnie Saynay, Global Head of Responsible Investment at Invesco, and Dr. Henning Stein, Global Head of Thought Leadership at Invesco and Fellow at University of Cambridge Judge Business School. It makes excellent points about the problem of overlap in reporting and other initiatives. It also encourages a “sincere search for authenticity in ESG integration and call for clarity in the approaches, strategies and methods used by investors and asset managers in the diverse space of responsible and sustainable investing.” Amen to that. But, it gets emotive about “ESG integration” potentially being “disconnected from the investment process, saying that when “it is hijacked by screening, scoring, overlaying, filtering or any other form of framework or tool” then “something vital is lost in translation.” Hijacked? It is up to clients if they want to overlay ESG integration depending on their goals or members’ views. Some do, most don’t.

Sure, there is social pressure for investors to do more to be ‘sustainable’…they don’t live in a vacuum after all! And one of the things we believe in at RI is that it is part of our role as a media company (along with civil society and responsible investors) to push ESG issues (AKA economic externalities) that may not be material today into the window of investor risk and return considerations. One of the reasons responsible investment has grown so much is that those externalities have increasingly become both financial in the short to medium term as well as contentious social concerns that investors need to ‘manage’ and have a view on/response to. They are not static though, and many are growing in urgency and importance. The RI Europe conference programme this year aims to chart both the macro and micro drivers of ESG materiality and societal necessity.

It is true that there are too many initiatives seeking info (and data providers seeking similar information), but many of these have been a result of the build up of responsible investment over decades. They will thin out naturally, as they do/did in the financial world. There’s no obligation for investors to participate in any practice they don’t want to. Indeed, I can’t recall any investor buckling from pressure to override their fiduciary duty. Quite the opposite, I’d argue. At its heart, the Invesco paper makes the case for letting asset managers get on with the job of sustainable finance. But while it makes the case for active ownership and investment stewardship through dialogue and engagement, and calls for a renewed focus on ‘outcomes’ to support sustainable development, it does little to advance how this might happen and create value and change. Its call for ESGintegration ‘authenticity’ is important, but it has to be demonstrable: show, not tell!

I’m not singling the authors out here; they are doing good work. But what matters in investment is how asset manager agents create value sustainably for their clients (both in the financial and societal sense) over time. And my experience is that many asset managers still actually don’t believe in responsible investment as a financial value/risk driver. Or their business models don’t. Much of what I hear rings hollow. Talk to non-ESGprofessionals within fund managers and there is much less happening in terms of real investment decisions being made considering ESG factors.

I don’t really blame fund managers; it is difficult for them to take a long-term view, and doing so is complicated (long-term investing is no panacea). They are also at the mercy of an increasingly short-term economic system and clients worried about near-term returns. What’s lacking is a clear rationale for long-termism as an economic and investment thesis, and the clients (ex those that are already doing so) that are willing to pursue that because it makes financial and sustainable sense.