Part two: Responsible investing in 2019, what to expect

Andrew Canter, Futuregrowth Asset Management's chief investment officer, shares some insights.

The world of responsible investing has seen clear forward movement – at the very least an understanding that the choices about capital deployment have real-world consequences. To overcome the structural barriers to the change, investors should start by recognising that environmental, social and governance (ESG) factors actually do impact risk:return considerations, and that value-adding investment processes can be built around that idea.

Part one: Responsible investing in 2019: some tipping points… and some not

Coming Soon? There are some ideas whose time has not yet arrived:

  • ESG is a Tool for Better Investment Decisions:  Many asset managers see ESG as ancillary to their analysis or a mere screening tool for investments (e.g. negative screening). Rather, ESG factors should become an additional set of analytical tools on which to formulate investment ideas and identify material risks or opportunities – and thus build top-performing, competitive investment processes.
  • Returns versus Being Responsible:  Investors must seek returns as a primary goal, and there should be no compromise of investment returns in favour of social or developmental impact. Sadly, many investors still muddle 'ESG', 'Responsibility' and 'Sustainability' with compromised returns. On the contrary, the additional analytical tools of ESG should serve to either reduce risks or increase returns over just about any time horizon. Once the language of asset managers and analysts clearly shifts to risk-avoidance and return-seeking we might see the end of the muddling.
  • Update Risk:Return Tools:  Risk measures of assets and portfolios often include volatility, macro factors, industry factors, and such. Investors need a more comprehensive set of risk measures so as to demonstrate that ESG analysis produces superior risk-adjusted returns. It should be clear that by avoiding governance, environmental and social pitfalls, an investor can reduce portfolio risk (albeit also missing out some high-flyers, before they come to earth) over the long-term.
  • Tick Box Assessments Are Not Adequate; Analytical Judgement is Necessary:  Each company, industry and country might have its own ESG factors, and so it is hard to standardise data and analysis. Thus, many analysts favour a 'tick box' approach to ESG assessments – using a scorecard, rather than applying necessary critical thinking to each factor and each investment. In governance, for example, it is easier to assume the “the Board is watching” when in fact we have the tools and methods to critically assess, and buttress, corporate governance far beyond the Board of Directors.

ESG Hostile?

  • #FeesMustNotFall:  Asset owners and their consultants persist with the view that asset management fees are too high, and must be trimmed. While possibly true in many sectors and firms, an investment process that incorporates a range of screening, analyses and tools – and acts in a genuinely competitive way (i.e. seeking returns) while concurrently seeking to be a positive force in the world – is not infinitely scalable, nor is it low cost-cost fund management. If investors want more analyses, more reporting, and generally better outcomes, then fees should not be cut willy-nilly.
  • Is ESG a Political Movement?  Many ESG issues – such as climate change (e.g. coal), gun control, health insurance, and even the UN’s 17 SDGs – have strong overtones of political agendas and social re-engineering. There is a danger that particular political views – personal beliefs, factional interests – can come to dominate ESG analyses and undermine objective measures of human and economic development. Asset owners are probably wary of this risk, and guard against their assets being used to effect social change rather being primarily risk:return cognisant.