Thinking about how to sustainably advise on sustainable investing?!
By Mark Bradley - March 13, 2023
ESG, Sustainable Investing and Positive Impact investing have become buzz words of late. At PortfolioMetrix we have been engaged in this space for close to 7 years now – which is quite a long time in what is still a nascent area of investing for most retail investors and advisers. With that in mind we have a penned a few thoughts below to help advisers clarify their thought process in how to approach advising clients in this space.
What ESG is and what it is not
Firstly, let’s start by clarifying a few things as there is a lot of confusion around ESG, much of which it must be said has been brought about by the proliferation of terminology, acronyms and marketing campaigns that have emerged in the investment industry in recent times.
What ESG is:
It is about risk management, incorporating risks and opportunities relating to relevant and material Environmental, Social and Governance issues.
It can be thought of as a more modern and evolved version of fundamental analysis.
It is partly qualitative in nature so opinions will diverge.
What ESG is not:
It is not about values, sustainability or positive impact.
It is not about being ‘Green’. In fact, it can lead to very ‘non-green’ investments. For example, if a carbon intensive energy company is trading at an attractive enough price (allowing for risks of for example carbon pricing, stranded assets etc.) then it can still be purchased and held when looking purely through an ESG lens.
What to avoid doing as an adviser
Avoid underestimating demand in this space. Numerous surveys of investors have shown they are interested in ESG, sustainability and responsible investment. One from Amundi in Ireland stated that 86% of respondents “said they placed an importance on ESG issues”. Meanwhile research from Deutsche Bank stated that “78% of our investors slightly or strongly agree in this year’s survey that their investments should have a positive impact on the world.”
Avoid over emphasising individual values. Attempting to incorporate every individual client’s very individual values into portfolio construction may be a noble cause but it will, in most cases, be highly impractical leading to very bespoke and difficult to manage portfolios which may also be challenging to diversify and control from a risk perspective. The good news is many clients are likely not driven by specific and personal values-based issues. Rather they would simply like to know that their money is being invested in such a way that it is ‘part of the solution rather than part of the problem’. That more of their money is invested in ‘good companies’ and less in ‘bad companies’.
Avoid positioning investments in this space around a performance narrative. There is no evidence that portfolios focused on ESG outperform or underperform the market. The portfolio will deviate from the market, some years it will do better, and some years it will do worse. This is to be expected.
What to focus on as an adviser
Have a scalable and convenient to implement solution that would satisfy most clients who are motivated to invest in this space. On an exceptional basis, if a client has a very significant sum to invest, and very specific values-based requirements, then a highly bespoke approach may be appropriate.
Look beyond basic ESG products and seek to incorporate more sustainable and positive impact focused investments, this is where clients are likely able to connect more tangibly with what they are invested in and why they are investing this way in the first place.
Take care when using mass market ‘tick box’ products unless you fully understand what is under the bonnet. And avoid over-promising when it comes to fully excluding certain sectors or business activities. This area can be a minefield. For example, a highly popular passive ESG equity fund contains one of the largest financers globally of coal-based power generation in its top 10 holdings. Some renewable energy companies can still have small exposures to fossil fuels. And, many manufacturing companies are highly likely to use fossil fuels somewhere in their production and/or supply chains.
Bring the investment to life by highlighting some examples of the types of companies the client is ultimately investing in and the positive impacts their money is connected to.
This is still a nascent space and constantly evolving, the important thing is to keep it simple for both you and your clients whilst not diluting the purpose of sustainable and impact investing by treating them as interchangeable with ESG investing.