Edition: April/June 2019
RI tipping points
Whilst he finds encouraging signs, Futuregrowth’s Andrew Canter also notices continued impediments.
There are meaningful changes in the world of responsible investment (RI).
Investors have now realised that global warming is real. It may be approaching the point of no return with visibly rising temperatures, melting ice and altered climates. The ability for humanity to make adjustments has dropped from decades to mere years. Investors seem less willing to trade ‘ecology’ for ‘economy’.
Capital is shifting away from carbon emitters to sustainable practices. ‘Stranded assets’ – the idea that coal or oil in the ground may never be used – is a phrase first coined only a few years ago. But it has quickly become a real factor in company analyses.
More investors are behaving proactively. This may be defensive as global inequality, slow growth and corruption have created political risk. They create unwanted uncertainty. However, RI is also driven by the trend for investors to seek a sense of purpose in their lives and with their money.
As investors move toward ‘making money and also being a positive force in the world’, they take on a wider role and duty. This leads to more varied analyses and better decision processes.
Investors are finding new tools to be responsible and engaged. These include proxy-voting policies and transparency, direct dialogue with companies and improved reporting on sustainability issues. There is an organised global movement toward requiring more comprehensive and standardised reporting on a range of environmental, social and governance (ESG) factors. Improved information flow on ESG issues is a vital first step for analysts to do their work.
In SA, recent corporate and public sector shenanigans -- plus the rising tide of stewardship codes such as the PRI, CRISA and Reg 28 -- have led investors to contemplate how they can improve governance standards. Tickbox governance assessments are clearly inadequate. The King IV code, for all its merits, is evidently not a panacea.
Governance does not begin and end with the board of directors. A more sophisticated view is that governance is the duty of the board, insiders, capital providers (investors and funders), regulators, auditors, ratings agents, journalists and customers alike.
While there are positive movements in RI, various challenges remain. Some asset managers put a veneer of ESG onto their investment processes, but investors are becoming increasingly savvy in differentiating between ‘ESG on the label’ versus ‘ESG in the product’.
Equity fund managers may also fetishise their benchmarks, in many cases leading them to be ‘closet indexers’ – reticent to stray too far from benchmark exposures. Thus, a manager with a strong view (either financial or ESG-based) has a difficult time going to zero exposure of a large-cap share. Until their investor clients expect and encourage bolder positions (relative to benchmarks), asset managers will be reticent to act strongly on corporate misbehaviour.
Another challenge is that investment analysts can suffer a range of inappropriate pressures that impair their independence or stifle their public voice. For example, there are corporate bullies ready to punish analysts who make critical comments by excluding them from future conference calls or report-backs.
Likewise, some financial-sector employers are more interested in protecting their corporate relationships than to allow unfettered analysis. SA has seen strong evidence of the benefits of a free press. Investment analysts’ independence is equally vital in maintaining accountability and transparency on issuers in public capital markets.
The world of RI has seen clear forward movement; at the least, an understanding that the choices about capital deployment have real-world consequences. To overcome the structural barriers to change, investors should start by recognising that ESG factors actually do impact risk:return considerations.
Value-adding investment processes can be built around this idea.