ESG investment considerations have risen to prominence in recent years as institutional investors think more carefully about the impact their investments have on the world, and on society at large. It is an issue that all investment managers – traditional and alternative – can ill afford to dismiss.
And as alternative data sets become more widely available, the way that managers think about ESG factors in the investment process is continually evolving; both in terms of corporate credentials, and measuring whether ESG investing can lead to improved performance in their portfolios.
It is a topic that splits opinion and will feature on the second day of ABN AMRO Clearing’s hugely popular Amsterdam Investor Forum; a leading forum for institutional investors and alternative investment managers. The event is running 19 and 20 March, 2019.
The panel, entitled ‘The Hedge Fund ESG experience: a growing awareness for investments’, will be moderated by Chris Farkas, UK Hedge Fund Leader, Deloitte.
Speaking with Hedgeweek ahead of the event, one of the panellists, Piet Klop (pictured), Senior Advisor Responsible Investment, PGGM, a leading Dutch pension fund service provider with approximately EUR211 billion in AUM, believes there are several sides to the ESG debate.
“I like to separate the risk side from the opportunity side,” says Klop.
“On the risk side, I think the emphasis will be on forward-looking ESG data. A lot of that will include data from unconventional sources including machine learning data, satellite data etc., and building out ‘what if’ scenarios; in other words, to move away from only looking backwards in the rear view mirror and thinking about risk in more forward-looking terms, using ESG data to project scenarios, such as climate change, which right now we believe are still underutilised in ESG investing.
“On the opportunity side, I think there’s going to be an increasing emphasis not only on doing things right but also on doing the right thing. There is demand on institutional investors, especially in northwestern Europe, to demonstrate proof of impact of their ESG investments. I believe that will be a big trend.”
For any hedge fund manager, the primary responsibility is to deliver solid returns, irrespective of their ESG policies – but if they can do it while also incorporating ESG factors into their investment process, then so much the better.
Asked whether ESG factors can improve an investment strategy, or whether it was merely a ‘nice to have’, Klop remarks:
“That’s the USD64,000 question.
“I think there is a general consensus, not just within PGGM but more broadly across different parts of the industry, that right now ESG has some potential to improve financial performance.
“Let’s assume, though, that that potential were zero. That would still turn the key question on its head from ‘Why would you do it?’ to ‘Why wouldn’t you do it?’
“If the manager can still generate the same level of financial performance then why not do the right thing and be a good corporate citizen?”
Klop is categorical when he says that PGGM – who do not currently invest with any hedge fund managers – would instantly disregard any fund manager who dismisses ESG out of hand. There are, he says, several motivations behind PGGM’s drive towards better ESG performance, and its tangible impact.
“On the risk side, our core motivation really is to be a responsible investor and maintain our reputation. We serve the healthcare sector, which has a lot of well meaning people who want assurances that their pension savings are being invested for good financial returns as well as a purpose they can identify with.
“That is really what drives us.”
Culturally, there is a positive mindset among European fund managers to look more closely at ESG but many important initiatives have come out of the US, such as the Sustainability Accounting Standards Board and the Task Force on Climate-related Financial Disclosures (TCFD), founded and chaired by Michael Bloomberg.
That said, on 8 March 2018, the European Commission introduced the Action Plan on Financing Sustainable Growth.
The Action Plan aims to further connect finance with the specific needs of the European and global economy for the benefit of the planet and has three objectives:
- Reorient capital flows towards sustainable investments to achieve sustainable and inclusive growth;
- Manage financial risks stemming from climate change, natural disasters, environmental degradation and social issues; and
- Foster transparency and a long-term outlook for financial and economic activity.
Part of this strategy will be to ensure that asset managers, institutional investors, insurance distributors and investment advisors include economic, social and governance (ESG) factors in their investment decisions and advisory processes.
“We think it is a positive move,” says Klop. “In the EU, there is an attempt to define the right things to invest in with respect to sustainable investing. We run a separate mandate at PGGM called ‘Investing in Solutions’ and it is built on such a taxonomy of solutions.
“That idea appears to have taken off and reached the EU level which is great.”
Following the chaos of the Global Financial Crisis a decade ago, there are a couple of things that Klop thinks hedge fund managers need to take to heart.
Firstly, he says, investors should really understand the companies they invests in; their environmental and social performance just as much as their financial performance:
“Simplicity is highly valued. We want to better understand the link between our financial investments and real world outcomes. It’s that link that we want to see, so that we can understand and explain why we are investing in this fund or that company.
“Secondly, there is a need for a long-term view. It will take time, but a lot of investors will want to see quantified the impact of a particular fund or investment. This goes back to the point I made earlier; on the risk side, managers should take their time, do scenario analysis and on the opportunity side, try to quantify or at least approximate what that investment is good for.”
As Klop states in no uncertain terms in conclusion:
“We have zero tolerance for managers who are in denial on the importance of ESG factors.”
