Environmental, Social and Governance (ESG) concerns were traditionally the realm of specialist Ethical and Green Funds but, with growing recognition of the consequences, companies are now addressing the issues as a matter of course.
For example, hundreds of business leaders have pledged to voluntarily adhere to the Paris Climate Agreement, under which 195 counties agreed to tackle global warming. This is translating into policies such as limits on carbon usage, with governments wanting a growing proportion of energy supplies to come from renewable sources.
Environmental issues are increasingly in the news: from the contamination of our oceans by plastics to vehicle emissions in our cities. David Attenborough’s Blue Planet TV show has done much to raise public awareness and campaigns and action groups have started up around the country.
Why are companies and their shareholders taking these initiatives so seriously? Well, studies have shown that those which implement ESG considerations produce higher profits and share price returns than their counterparts who fail to react. Furthermore, individuals, and in particular millennials, are now engaged with these issues in their daily lives and expect similarly high standards to be applied to their investments.
Consequently, there has been a surge in interest in what is generically known as Socially Responsible Investing (SRI) and I thought it might be useful to explain some of the terminology and the type of products that are on the market.
SRI is actually the investment discipline that applies ESG criteria to identify companies that can generate both long-term competitive financial returns and have a positive impact on society. It is also an umbrella term for a number of strategies including: sustainable, responsible, ethical, environmental and impact investing. Generally speaking, responsible and ethical approaches overlap, as do sustainable and environmental mandates, although Funds can adopt considerably varying approaches to stock selection.
Impact investing, introduced by a charitable foundation in the US in 2008, strictly speaking puts quantifiable social returns ahead of investment outcomes. This usually involves very long term, less liquid investments and is a step away from philanthropy- the funding of worthwhile projects with no expectation of financial returns. However, impact investing has now become the latest buzzword when referring to certain aspects of SRI such as green impact or social impact.
So where do investors find SRI opportunities? Without doubt, we’ve certainly come a long way since the first Ethical Fund, the Friends Provident Stewardship Growth, was launched in 1984. One sceptic dubbed it ‘the Brazil Fund’, not because of its concern for disappearing rainforests but because you had to be ‘nuts’ to invest in it. How wrong they were: the original Fund grew into a range worth £3 billion (now branded ‘responsible’) and is now under the ownership of BMO F&C.
I was the manager of the TSB Environmental Unit Trust (now branded Scottish Widows) back in the early 1990’s, when there were only a handful of these ‘green’ Funds on the market , and it was regarded by some as a bit of a novelty for the green welly brigade. Looking back I’m quite proud to have been involved at the start of this revolution, now an integral part of modern day investing.
Of course, SRI means different things to different people and you can find investment opportunities along the spectrum, from strict ethical mandates to ones focusing on environmentally friendly products. Active Funds have led the way, but more recently Passive Fund providers have joined in, with a number of index trackers and ETFs launches. These apply factor investing, which takes an index and screens holdings on criteria such as diversity in the workplace or carbon emissions.
What’s more, you no longer have to invest in a specialist Fund to ensure ESG issues are taken into consideration. ESG analysis and action is now delivered by dedicated teams at Fund Providers for the benefit of all their Funds. They interact with companies on a range of issues and vote against practices that they deem unacceptable, particularly governance matters such as director’s remuneration.
The aim is to promote and enhance responsible practices rather than make decisions on whether to include or exclude investments. However, for Funds with an SRI mandate, they will help determine the acceptable universe and may use external experts to supplement their research. Fund Managers will then build a portfolio using traditional financial analysis.
Fund ratings agencies are also getting involved-Morningstar, for example, recently ranked its top 5 Funds for a low carbon future. These included: Artemis Global Select, Jupiter European and Fundsmith Equity, all of which have featured in recent ISA guides.
Whichever way you look at it, SRI has moved from niche to mainstream and I expect interest will continue to grow strongly. It’s a far-reaching theme which is evolving constantly and is often high on the agenda at investment conferences I attend. In this note, I have really only been able to skim the surface but I’m sure it’s a topic that I’ll be revisiting soon.
To sum up, ESG issues are another example of how investors need to be proactive if they are to identify the winners and losers of the future. To illustrate how far we have come, I’ll leave you with this statistic: in 1989 the Exxon Valdez oil spill barely affected Exxon’s share price yet forward to 2010 and the Macondo oil spill led to a more than halving of BP shares. In my view, responsible investing is the best way to support companies that will survive and thrive in the long term.
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