A growing number of investors require hedge funds to build environmental, social and governance (ESG) elements into their investment processes – with traditional risk-return metrics being overhauled to include ESG factors, a wide-ranging industry study has found.
A growing number of investors require hedge funds to build environmental, social and governance (ESG) elements into their investment processes – with traditional risk-return metrics being overhauled to include ESG factors, a wide-ranging industry study has found.
The report, ‘Sustainable Investing: Fast Forwarding Its Evolution’, published jointly today by KPMG, the Alternative Investment Management Association (AIMA), the Chartered Alternative Investment Analyst Association (CAIA), and CREATE-Research, underlines the far-reaching impact that ESG is having on the investor-manager dynamic.
The study quizzed 135 institutional investors, hedge funds and long-only managers spanning 13 countries, with assets totaling some USD6.25 trillion. It found that investors now expect their asset managers to deliver attractive financial returns while also considering the environmental and social risks in their investments.
“In the hedge fund industry, ESG has gone from being a nice-to-have to a must-have,” said Anthony Cowell, head of asset management at KPMG in the Cayman Islands and co-author of the report.
The report indicated that almost half (45 per cent) of institutional investors now base their investments in ESG-focused hedge funds on the view that they offer opportunities to generate alpha, while offering a more defensive portfolio that looks beyond the blind spots in markets that are slow to price in ESG risks.
In turn, hedge fund managers are taking steps to respond to investor appetite, though with mixed progress. Some 15 per cent of those hedge funds surveyed said they were at a ‘mature’ stage – where ESG has been implemented across the firm through appropriate policies, committees, research and data. Meanwhile, some 44 per cent are at the ‘in progress’ stage, while close to a third – 31 per cent – are still at the ‘awareness raising’ stage. The remaining 10 per cent have yet to commence their implementation of ESG.
Delving deeper, the study identified three broad methods used by hedge funds to better incorporate ESG into their businesses: the general investment process (used by 52 per cent); excluding those securities that sit uncomfortably with the personal values of investors (50 per cent) and shareholder engagement (31 per cent). Some 29 per cent of hedge fund managers and 11 per cent of institutional investors report positive outcomes.
Commenting on the report’s findings, Andrew Weir, KPMG’s global head of asset management, KPMG International, and a partner with KPMG China, said the swing towards ESG will require “mindset shifts” away from traditional investing methods and practices. “Sustainability is set to reshape the ecosystem of capital markets and the behaviors of their participants,” Weir noted.
