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Leadership di pensiero

Why does Sustainable Investing Matter?

08/12/2017

The world is now realizing the climate change’s financial cost is likely to be huge. The last hurricane season in the Atlantic Ocean, for instance, has left overall insured losses worth an estimated USD100 billion, according to investment bank Morgan Stanley (source www.fortune.com, October 10, 2017 from).

The consequences of climate change are far-reaching: a Peruvian peasant, Saul Luciano Lliuya, is suing RWE, an energy giant, in Germany, as he claims the company’s carbon emissions are responsible (albeit indirectly) for the melting of a glacier that has now formed a lake threatening his hometown of Huaraz (source www.theguardian.com, 14/11/2017).

There is a growing pressure on financial institutions to contribute to the struggle to limit climate change. Recently in London, institutional investors controlling USD 1 trillion of assets wrote to leading banks urging them to take actions (source www.ft.com/ September 14, 2017).

Asset managers, banks, institutional investors and insurance companies are understanding they can - and they should - encourage positive actions by allocating their investments.

A big German lender has launched a worldwide campaign to promote its “Made for Good” program for social good while most others are embracing Socially Responsible Investing (SRI) and Environmental, Social and Governance (ESG) as new guiding principles.

Sustainable investing is not a new concept, but it urgently needs to be taken seriously

The idea of SRI is not new. Some trace it back to 1758 in Philadelphia, when the Quakers prohibited their community to participate in the trading of human beings. Around the same period, methodist preacher John Wesley recommended business or investment practices should not harm neighbors.

As all agree on its objectives – contributing to a better world by investing in worthy causes and with “Social” now replaced by “Sustainable” in the acronym – there is no clear and widely shared definition for SRI.

EuroSIF, the European association of national SRI organizations, used to work with several definitions to acknowledge historical and cultural differences when approaching SRI. However, as various EU bodies started to get into the concept, it came up with one:

SRI is a long-term oriented investment approach, which integrates ESG factors in the research, analysis and selection process of securities within an investment portfolio. It combines fundamental analysis and engagement with an evaluation of ESG factors in order to better capture long-term returns for investors, and to benefit society by influencing the behavior of companies.

The reason why SRI/ESG is finally getting a real momentum is that beyond the spotlights taken by the recent Paris agreement (COP 21), regulators are gradually getting worried about the impact that a slow transition from fossil fuels will have on economies and financial markets.

One such report from the Advisory Scientific Committee to the European Systemic Risk Board (ESRB) looks at systemic risks in this context. The report argues that if no serious preventive actions are taken by 2030, we will not be able to avoid a 2°C temperature increase globally.

However, postponing the inevitable will lead to a late and abrupt transition. The report highlights that if sharp constraints have to be implemented rapidly, the economy will be adversely affected. Indeed, both the sudden rise of energy costs (as fossil fuel energy will suddenly be taken out of the market) and the repricing of now useless carbon assets (oil field, refineries, LNG ports...) will interact and reinforce each other. Those two factors will ultimately weaken financial intermediaries directly (bankruptcies of debt financed carbon intensive assets) or indirectly (through economic recession). 

Throw in exacerbated losses from unusual hurricanes and you have a recipe for a potential catastrophe. Governments are trying to anticipate and use finance as a lever. In the EU, the Commission’s High-Level Expert Group recently published its report on sustainable finance and a public consultation on institutional investors and asset managers’ duties regarding sustainability was recently launched.

SRI / ESG investments roaring ahead at full speed

While governments and regulators are taking steps to funnel finance towards sustainable investing, investors have already taken the initiative.

In the past, the “old” SRI investing mainly consisted in a negative screening of a portfolio with the aim to take out the usual suspects on moral, social, and ethical ground. Traditional losers were stocks linked to tobacco, alcohol, weapons or gambling, for instance.

Today, sustainable investing wants to be more proactive, positive and comprehensive. Several factors are studied to screen stocks such as the social impact of companies or their behavior towards pollution or recycling. Most of those factors will fall under one of the three following categories: Environmental, Social, corporate Governance.

Even though SRI/ESG might lack a widely shared definition and would greatly need some standardization, it is growing fast both in terms of participants (more than 1,800 institutions have signed up to the UN Principle for Responsible Investing) and assets under management.

In a bid to find common citeria, Societe Generale Securities Services is now offering a service called ESG Reporting that measures the impact investment strategies have on society. The new solution allows institutional investors and asset managers to rate their investments against a broad set of Environment, Social and corporate Governance (ESG) indicators using MSCI data and methodology. These indicators include criteria, such as CO2 emissions, board composition and executives’ salaries as well as labor policy and producer responsibility.