Responsible Investment 2020

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R E S P O N S I B L E I N V E S T M E N T 2 Commercial feature US continues to lag behind American investors are showing more appetite for responsible investing, but political and regulatory roadblocks are still standing in the sector's way he United States is the world's larg- est and deepest market for inves- tors, but when it comes to envi- ronmental, social and governance (ESG) investing, it lags behind Europe. Accord- ing to a survey by the Global Sustainable Investment Alliance, America had global sustainable assets of $11.9 trillion in 2018 compared to $14 trillion in Europe. Sustain- able investing now makes up about 25 per cent of assets under management, accord- ing to US SIF, the forum for sustainable and responsible investment. The lag is not from a lack of interest in ESG. A survey by asset manager Schroders shows more than 60 per cent of Americans agree investment funds should consider sustaina- bility factors. Yet only 15 per cent say they put money in sustainably themed investments. Interest is particularly strong among younger investors. According to the Natixis annual survey of 401,000 plan participants, 70 per cent of millennials say they would invest in plans for the first time or increase their contribution rate if they had access to sustainable investment options. While there has been increasing investor interest in ESG, the political and regulatory environment is another story. "You need three legs on a stool to bring about broad-based support for ESG," says Scott Kalb, founder and director of the Responsible Asset Allocator Initiative at New America. There needs to be general government support, a favourable regu - latory environment and leadership at the fund level, he notes. "In the United States, we basically have one out of three. Organisations have to be pretty brave to pursue ESG investing," he says. US regulation on ESG has gone back and forth a few times in the last couple of dec- ades, fluctuating between a neutral stance to actively discouraging it. Ellen Sheng T The US Department of Labor (DoL) gave sustainable investing the green light back in 1994, positioning it as a tiebreaker between two otherwise similar funds. But then new guidance in 2008 made some fiduciaries nervous to pursue ESG invest- ing. The guidance was updated again in 2015 acknowledging ESG can be an impor- tant material factor, which helped encour- age ESG investing. Now the tide has turned again and ESG investing is facing both political and reg- ulatory hurdles. Under the Trump admin- istration, the federal government is dis- couraging sustainable investing and environmental protections. The adminis- tration has pulled out of the Paris Climate Accord while rolling back environmental regulations, appointing former coal lobby- ist Andrew Wheeler as head of the Environ- mental Protection Agency. Earlier this year, the DoL presented a pro- posal that states fiduciaries can follow ESG, but must prove that it's cost effective. The proposal, which is currently open for a com- ment period until the end of July, would do much to discourage investment managers from considering ESG issues, says Meg Vor- hees, director of research at US SIF. "It could have the perverse effect of mak- ing investment managers not consider ESG, against fiduciary judgment," says Vorhees. Managers know ESG factors can be material. But, she points out: "If I make it clear that we try to consider them that would invite scru- tiny from DoL and who needs that?" In addition to the less-than-supportive regulatory environment in America, there's also the fear of backlash from sharehold- ers. The risk of litigation is an ever-present threat. The way regulations are written, the onus is on trustees to prove ESG investing does indeed generate better performance. When CalPERS, the largest retirement plan in America, tried to divest assault rifle retail- ers and wholesalers from its system, its board president was unseated by a California police sergeant who criticised CalPERS use of ESG as well as its mediocre returns. Similarly, in New York, several government unions opposed the comptroller's plan to dump fossil fuel invest- ments from the state's pension fund. Much of the objection to ESG invest- ing stems from an outdated perception that embracing ESG comes at a cost of financial returns. "There is a history of thinking about socially responsible investments as things you don't want to own that tends to lead to the perception of underperformance," says Ed Farrington, executive vice president at Natixis Investment Managers. Regulators have tended to take the same view and have not helped push forward other strategies such as ESG integration. ESG investing has evolved dramatically in the last decade, but many Americans still believe it is only about divestment or screening out certain industries such as tobacco, alcohol or munitions. "The United States has not moved to the next part, to impact-oriented, positive inte - gration; that was a step America has not taken," says Jens Peers, chief executive and chief investment officer for Mirova US. Despite the hurdles, interest in ESG investing is pushing more managers to include ESG factors. Some also see the coro- navirus pandemic as a turning point for ESG as the crisis has highlighted the impor- tance of corporate responsibility and other ESG factors. Sustainable funds saw a record $10.5 billion of inflows in the first quarter, according to Morningstar. "I don't think they can stem the tide. Money is moving in this direction and I don't think they can stop it for some polit- ical reason," Kalb concludes. LGT Capital Par tners 2019 any investment firms are look- ing to a future in which they meet their net-zero targets, achieving an overall balance between emissions produced and emissions taken out of the atmosphere. However, while much needed, setting these long- term targets does not always compen- sate for the environmental damage being done right now and companies should be taking full responsibility for all emissions that will be produced, both today and tomorrow. "We need both longer-term plans for systemic change, as well as immediate action today. Ultimately, it is today's emissions that are causing tomorrow's climate change and we need organi- sations to take full responsibility for their carbon emissions now," argues Vaughan Lindsay, chief executive of ClimateCare, the UK's highest-scoring profit-for-purpose B Corporation that finances, manages and develops cli- mate projects around the world. Over the past 18 months, there has been a substantial shift in how many corporations think about the impact they are having on the environment. An increasing public awareness of climate change and changing consumer behav- iours has catalysed this shift that, when combined with pressures coming from investors and governments, has driven increasing climate ambition and action in the investment space. So much so, in fact, companies that have previously engaged with climate change mitigation mainly due to corpo- rate social responsibility (CSR) are now beginning to see it as a "business-criti- cal issue", says Lindsay. But robust and transparent environmental, social and governance (ESG) policies that go beyond "do no harm" are no longer a nice to have, rather they are now fundamental to the success of every investment strategy. "If organisations aren't thinking about how to make their products and services climate neutral, consumers may not choose their brand, and they may well find it harder to attract new customers, retain existing customers and attract talent," he says. This increasing consumer aware- ness, and certainly the issue of con- sumers lobbying for change, have been highlighted time and again in research. A recent survey by B Lab UK and ReGenerate, for instance, revealed that 72 per cent of the UK population believe businesses should have a legal responsibility to the planet and people, alongside maximising profits. Such consumer awareness is driving investment firms to take action. "We increasingly get inquiries from pri- vate equity houses and asset manag- ers saying they've offset their business travel and office costs; they've done all that, but this is usually a very small part of their carbon footprint. What we then need to ascertain is what more they can do to strengthen their climate action across their entire investment portfolio," explains Lindsay. The next step is for investment com- panies to become climate-neutral investors. But what does this mean in practice? "It involves a whole suite of actions that include screening to avoid highly carbonised sectors, understand- ing the carbon footprint and awareness of their investee companies, taking action to reduce this carbon footprint and offsetting their residual emis- sions," he says. "If we're going to limit global warming and avoid catastrophic climate change, then we need to take full responsibility for our carbon emis- sions right now, to ensure that the jour- ney to net zero is as fast as possible." What are the benefits for investment companies by acting now to offset their emissions today? Lindsay argues that there are real benefits throughout the private equity cycle and points to the Nordea Equity Research report that found companies with the highest ESG ratings outperformed the lowest-rated firms by as much as 40 per cent. It seems clear that a climate- neutral approach will indeed help pri- vate equity houses with raising funds, as investors are increasingly selecting those with strong climate credentials. Failing to do so may mean they lose out. One of the private equity invest- ment firms leading the charge on this is Triton Partners, a leading European firm invested in portfolio companies with combined sales of €17.4 billion. Part of Triton's investment strategy is to increase environmental ambition across its investment portfolio. It does this by raising awareness of climate- related risks and opportunities, and supporting portfolio companies to take responsibility for carbon emissions through carbon offsetting. ClimateCare worked closely with the Triton ESG team to create and deliver a sector-leading offsetting programme, which enables their portfolio com- panies to compensate for their emis- sions by supporting rainforest protec- tion and renewable energy projects. As a result, Triton hopes to build the value and resilience of its portfolio. At the same time, it is preventing the release of around 300,000 tonnes of CO₂ a year into the atmosphere, empowering communities and pro- tecting precious rainforest habitat, which is home to hundreds of endan- gered plants and animals. Graeme Ardus, head of ESG at Triton, explains: "Offsetting with ClimateCare is part of a wider energy transition strategy for Triton that is focused on building better businesses by encour- aging change through being more energy-efficient and adopting low carbon technology. Our role is to sup- port that change for the better across our portfolio companies." With the expertise of organisa- tions such as ClimateCare, investment companies can accelerate their ambi- tion today by compensating for resid- ual emissions with a robust carbon- offsetting programme. This strength- ens both their value and brand. With $5 trillion in investments already committed to net-zero invest- ment portfolios by 2050, there is a real opportunity for changes ahead. As Lindsay says: "Helping investment firms unlock the trillions of dollars in the capital markets is the scale of ambition we need to tackle global cli- mate change." And it's not just in the invest- ment sector that we're seeing some great steps forward. Earlier this year, Microsoft announced that it plans to remove all the carbon the com- pany has emitted by 2050, either directly or by electrical consumption, since its inception in 1975. "Those are some really exciting statements," says Lindsay. "I think that it's beginning to raise the bar and ambition about what positive corporate action looks like." Will other companies and industries follow suit? Absolutely. Lindsay explains he is already witnessing this. "We are seeing many investment companies taking full responsibility for their cli- mate impact and in doing this they are demonstrating it is both good for the climate and good business," he says. Certainly, the time to act is now. A robust and transparent climate strat- egy is no longer optional in the invest- ment sector. It's an essential element of a successful investment strategy to attract new capital and manage climate-related risks, and harnesses the opportunities of an economy tran- sitioning to a low-carbon state. To quote Larry Fink, chief executive of BlackRock: "Coming out of the crisis, we have an opportunity to accelerate towards a more sustainable world. The pandemic we're experiencing now is further highlighting the value of sus- tainable portfolios." For more information please visit climatecare.org Taking climate action is good for business Investment firms should take responsibility for their carbon emissions in a way that delivers real, measurable results for the environment, global consumers and their business Commercial feature M Part of Triton's investment strategy is to increase environmental ambition across its investment portfolio. It does this by raising awareness of climate- related risks and opportunities, and supporting portfolio companies to take responsibility for carbon emissions through carbon offsetting better performance by companies with the highest ESG ratings compared to the lowest-rated firms Nordea Equity Research of private equity managers already integrate ESG into their investment process and a large part of the focus is shifting towards climate awareness in investments already committed to net-zero investment portfolios by 2050 40 81 $5 % % trn U N I T E D S T A T E S Many Americans still think of environmental, social and governance investing as a screening process, but ESG has become much more sophisticated. An increasing number of managers now use ESG integration, in which ESG issues are systemically included in investment analysis and decisions. Of the almost $12 trillion in US- domiciled assets under management using sustainable strategies, ESG integration is used across an estimated $9.5 trillion in assets, according to the Global Sustainable Investment Alliance. This contrasts with Europe where screening is the dominant strategy with €9.5 trillion out of a total €12.3 trillion. ESG integration is the third most common strategy with an estimated €4.2 trillion. Driving this trend is an increasing understanding that ESG factors help to minimise risk and paying attention to them helps financial performance. A recent study by Bank of America, which analysed the performance of thousands of publicly traded companies, found companies that take ESG factors into account performed better financially. Those with poor records posed a risk to themselves and investors. The impact of ESG factors on financial performance is resonating with fund managers. Between the growing body of academic research demonstrating the material impact of ESG factors and increasing investor interest, industry watchers anticipate further growth in ESG integration as well as ESG investing overall. ESG integration gaining ground Money is moving in this direction and I don't think they can stop it for some political reason 79% ESG fund managers in Europe rated "good" or "excellent " 49% ESG fund managers in USA rated "good" or "excellent " Unsplash, Aditya Vyas Rob Kim via Getty Images A recent study by Bank of America found that companies which take ESG factors into account perform better financially.

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