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ESG: Fully Connected to Performance

France has seen a huge surge in interest following new regulation requiring institutional investors to disclose how environmental, social and governance factors are considered in their investment decisions.

Demand has dramatically increased over the past two years as direct consequence of this regulation.

Eric Van La Beck
Director of research and development for sustainable and responsible investment at OFI-AM

Ethical or sustainable

This means there is significant education still to be carried out: the primary issue is for investors to understand the difference between ethical and sustainable investment. Ethical investment is based on individual beliefs about the morality of different industries and tends to lead to “exclusion” policies, whereby investors simply refuse to allocate any money to particular sectors, such as armaments or tobacco.

Most of our clients have come to the conclusion that they should be doing something, most of them have turned to exclusions.

Eric Van La Beck

Sustainable investment

Sustainable investment, on the other hand, is based on the belief that analysis of issues beyond the traditional financial reporting can be used to improve investment outcomes. This means there is no trade-off between doing well and doing good, over the medium-term and long-term.

From our perspective, ESG is absolutely fully connected to performance,” says Mr Van La Beck. “We have done internal studies and the delta [the difference in performance] between the best in class and worst is absolutely staggering."

“For us, this debate is behind us. It is a forward-looking strategy.”

 

The “best-in-class” strategy he refers to involves comparing companies within a sector on their ESG performance. The challenge in this, as in most ESG investment strategies, is finding comparable data on those companies.

Compatible data and engagement needed

In this respect, France is well ahead, especially when it comes to disclosure by companies on their carbon footprint,” says Mr Van La Beck, who credits the energy transition law with this development. “The EU has to follow this path - we need consistent data.

To be fair to the rookie investors who turned to exclusion first, it can also be a feature of SRI, where an entire sector is deemed unsustainable or is ruled out by regulation. In France (and other jurisdictions), investment in manufacturers of personnel landmines and cluster munitions is barred. In addition, OFI-AM has decided that thermal coal is a sector that will not be profitable for much longer and is therefore by definition unsustainable.

SRI portfolios may not underperform their mainstream peers, but do investors have to bear the cost of all the extra analysis? Each fund manager sets its own rules on this, but OFI-AM absorbs the extra cost of the research. The only addition to the investors’ bills is the cost of monitoring controversies surrounding portfolio companies.

SRI portfolios may not underperform their mainstream peers, but do investors have to bear the cost of all the extra analysis? Each fund manager sets its own rules on this, but OFI-AM absorbs the extra cost of the research. The only addition to the investors’ bills is the cost of monitoring controversies surrounding portfolio companies.

The other strong demand we get from investors is for engagement, either on ethical points or on climate change.

Mr van La Beck

Increasing awareness of the UN’s Global Compact, which calls on companies to respect human rights, labour and environmental principles, has raised this demand for engagement, he explains. “Six out of these ten principles relate to human rights or labour rights. This has a strong resonance for French investors.

The next stage, hopes Mr Van La Beck, will be for supervisory authorities to “be much more demanding with respect to the portfolio regarding a 2 degrees Celsius alignment”. In this scenario, investors would have to explain how their portfolio is designed both to contribute to and to perform in a world with climate change limited to a rise of 2 degrees Celsius.