We are witnessing a fundamental transition in the importance of responsible investing from the fringes of investing to the mainstream. Whilst the understanding of the material impacts of Environmental, Social and Governance (ESG) factors is growing rapidly, the quality and quantity of ESG information available continues to lag behind its demand. As an industry we need to work together to develop the reporting side of ESG – by nature an essential for today’s investment decisions.
ESG Data: Redington and the Industry
Like the rest of the industry, investment consultants are trying to understand and explore the most effective ways in which to source, convey, and analyse ESG data. This may involve sourcing ESG metrics, such as data on shareholder engagements topics or a fund’s carbon footprint.
However, a deeper analysis of the investment philosophy, processes and capabilities of a fund manager is a better indicator of ESG quality than analysing the ESG of the funds’ underlying holdings in isolation. This all forms part of our 10x10x10 manager research and selection process.
The Principles of Responsible Investment (PRI) scores are issued with a similar intention. The scores can help asset owners to understand how an asset management firm is taking ESG considerations in its investment process (we source these scores yearly for all our reporting clients). Encouragingly, the global number of manager signatories has increased from c.350 in 2008 to c.2,000 in 2018. Whether for reputational reasons or a commitment to ESG, responsible investment has become something investors cannot ignore.
However, at Redington we love going a step further. We believe there is significant value in understanding ESG risks beyond the firm level. Fund level ESG scores are something we have started providing for equity mandates, and we are in conversations with fund managers to extend this analysis to other asset classes. Following a recent round of meetings, 75% of equity managers of our clients’ Defined Benefit (DB) mandates currently provide or are in the process of developing some form of fund level ESG score. Reporting on credit mandates is the next obvious step and we are closely following developments in this space.
While firm level ratings might be able to tell us about processes and managers’ abilities, fund level scores are a direct way of proving and monitoring ESG impact of a portfolio. This tackles the risk of Greenwashing, and drives us towards transparency and clarity of what is ultimately happening with members’ pension money.
Challenges in Reporting
Progress is underway for equity and credit strategies but there are significant barriers to overcome:
- In asset classes such as illiquid credit, property, and derivative-heavy funds, most ESG reporting tools do not currently offer the function to map the ESG characteristics of the underlying asset being invested in.
- Managers also differ in the way they assess and report their fund ESG scores which makes an ESG comparison of funds within a client’s portfolio difficult.
An answer to the two barriers mentioned above, is to agree on standardised ESG metrics with fund managers. Metrics that are both financially material and common across data providers. We continue to have these conversations with fund managers and our dedicated Manager Research Team assess the metrics to give clarity and relevance to the meaning of ESG scores. For example, a dedicated Manager Research Team can shed light as to whether an above average score signifies a fund is actively managing its ESG risk or not.
There are also signs that more is being done to improve the information available on ESG. An example is the recent move by the FCA and the Bank of England to integrate climate change as part of their regulatory work. Consultants can be a catalyst given their position as intermediaries between institutional clients and fund managers. Our role is to push for consistency. transparency, and standardisation in the way Managers report their ESG impact across mandates in the same asset class. Consultants with dedicated Manager Research Teams can filter our Greenwashing and spot the best value and commitment of firms towards ESG integration.
As ESG transitions to become fully integrated in the decision-making process for investors, we expect to see increased clarity and consistency across reporting. Increased regulation asking institutional clients to account for ESG factors in their strategies is driving demand for information that is consistent and clear. Being at the frontline driving these developments will allow us to embrace changes as well as to help our clients integrate ESG in their investment process – making people’s financial futures one worth living in.