In the second in our Clarity Clinic series, we ask XPS Pensions Group’s chief investment officer, Simeon Willis, about how asset owners’ views on ESG are changing and whether industry kitemarks are useful in weighing up asset manager credentials?
1. How would you describe the level of understanding among asset allocators about links between ESG themes and financial returns?
You get two camps of investors. Those that have really thought about it and have considered the key things that they want captured and those who are looking to be led. Some of the arguments for incorporating ESG into investment strategy has been built around outperformance and, while there have been some studies that say there is a link there, others are less conclusive.
My overview is, there feels like there is an awful lot of confusion in the market about what ESG means. People are now very familiar with the term “ESG” but are less familiar with how it might impact them or feature in their decision making.
For years, we have had pension schemes considering ESG in their Statement of Investment Principles, but sometimes that was a throw away sentence so they could say that it was covered off. Very rarely did that feed into the thought process or decision making.
People are still getting confused between ethical investment and factoring the full plethora of ESG themes into decision making. Anything the industry can do to promote a clearer understanding of how this can be applied in different ways is to be welcomed, because we are not there yet.
2. How important is it for asset managers to invest in ESG metrics to consider portfolio risks not obvious in financial reporting?
If you are an active equity manager and you are going to invest in a company, you are going to spend a lot of time thinking about the company. If you don’t think about the environmental impact, the way it is governed or its impact on society, you are missing a huge chunk of that analysis. Some investors have broader principles on how they expect businesses to operate, and want to make sure that this is reflected in the investment strategy.
3. How do you think incorporating ESG considerations into investment strategies will aid returns in the long run?
The general direction of regulation is becoming tighter and will become more restrictive. A company that is thinking ahead, and not just doing the bare minimum could be positive and enhance company sustainability because it will be more resilient to changes to regulation. It is about looking at publicly available information on what a company is doing and building that into decision making. Given we are in a society that is increasingly aware of these matters, there could be a financial penalty from not managing these risk factors in a considered way.
4. What do you consider to be the role of consultants in helping asset owners on ESG matters?
Consultants should be clear about what ESG is and what it isn’t. Be clear to clients about what their role is as a stakeholder in the decision tree and the impact of these issues on financial returns. They should be able to debunk some of the misunderstandings of what “ethical investing” is and how that shouldn’t be confused with taking ESG into consideration.
5. What are your views on industry kitemarks which endorse the ESG approaches of different asset managers and fund firms?
The UNPRI is approaching 2,000 signatories now, which is great, but how many of those have just decided to pay the fees in order to use the designation. Do they go any further than that? I don’t know. It is difficult to tell. It is one that needs to be looked at on a case by case basis. Industry kitemarks should be just one factor being taken into consideration when appointing a manager. The ESG approach needs to be seen in the mix and any kitemark is just one element that can be judged.
6. What else do you consider to be important when assessing an asset manager’s approach to ESG?
Their experience in the asset class, the management approach they take when it comes to control and influence in the underlying companies. Then there are the fees, the features of the fund in terms of liquidity and other standard features of investment – all those things are important and need to be weighed up appropriately.
