Impact investing, responsible investing, environmental, social and governance investing – these are all different branches coming from the same tree and have been rising in popularity.
As interest in climate-related issues has been growing for some time, more and more investors have been looking towards making their money work for the greater good.
The consumer-facing campaign Make My Money Matter has played a key role in encouraging people to explore where their pensions are invested, as well as how they could change this to contribute more positively to society and the environment.
Naturally, all fund managers want their investments to last in the long term, raising the question of whether those funds that do not offer some form of sustainable investing are likely to get left behind.
With so much money invested in pensions, many investors will see this as the easiest form of responsible investing and putting their money towards a good cause.
Morningstar data on sustainable fund flows found that investors, especially in Europe, are becoming far more engaged in responsible investing and this demand is being met by a large number of fund launches.
So is moving towards some form of sustainable investing inevitable?
Dan Kemp, global chief investment officer of Morningstar Investment Management, explains that despite the range of approaches to sustainable investing, the fund options available on most platforms remain narrow and so it is likely to be some time before investors can fully express their values and preferences through their pension investments.
“It is also worth noting that most fund selectors require active fund managers to have a track-record managing their current strategy before investing,” he says.
“With so many new sustainable funds being launched recently, the track records of managers in this area is often short, leading some investors, including Morningstar Investment Management, to make greater use of passive funds.”
Kemp explains that many of these passive funds have been launched as exchange-traded funds, which are not available on all platforms, and where they are available, the cost of portfolio changes can be prohibitive for smaller accounts.
“This is naturally reducing the access to high-quality sustainable portfolios,” he adds.
But Minesh Patel, chartered financial planner at EA Financial Solutions, says workplace pensions are one of the largest sources of retirement provision, with many employees investing in default retirement strategies designed to provide decent returns without the need to have sophisticated financial knowledge.
He says: “Many of these do not take into account sustainable investing since their ultimate aim is to provide employees with a good pension in retirement. However, beneath the default option, many pension schemes offer sustainable investing funds that can be accessed.
“Therefore individuals should assess how much of their pension is invested in companies that are so-called bad actors and seek out a cleaner alternative.”
Vote with their feet
Using the Brundtland definition, John Ditchfield, head of responsible investing and wealth management adviser at Helm Godfrey, says 'sustainability' for many people means not degrading the natural environment up to a point where future generations are likely to have an impaired standard of living due to environmental problems.
Considering tobacco and fossil fuel companies, many funds have shifted away from investing in these, but there are still funds out there that continue to invest in these areas.
Yan Swiderski, trustee of the Global Returns Project, says for decades most investors have focused entirely on financial returns without considering their impact on the planet, arguing that funds that continue to invest in tobacco and fossil fuels fall within this category.
“But this old-fashioned and degenerative approach to the earth ignores the economic effects of the climate crisis,” he says.
However, Patel argues that these funds continuing to invest in these companies will lose investors.
He says: “Investors will vote with their feet and disinvest from, or not invest at all in, companies that contribute to shortening people's lives and companies that participate in fossil fuel production and supply, which threatens the existence of people and the planet.”
Conversations about ESG and sustainability are being discussed in all parts of the world, more recently at Cop26, with many believing the shift towards this is inevitable in order to sustain the earth.
James Alexander, chief executive of the UK Sustainable Investment and Finance Association, agrees but says it varies depending on the definition of sustainable investing.
He says: “If we take it in the broadest sense of meaning, all investment decisions explicitly take into account and integrate climate change and wider sustainability issues, then we believe in time this will be an inevitability.
“This is in part due to client demand and clients/savers’ rising interest in their investment mandates incorporating ESG issues. We are increasingly seeing savers wanting their values to be expressed in their investments and a growing awareness of the power their investments and pensions can have as a force for good in driving progress to a greener, more sustainable future.”
Alexander argues that the rising demand from clients and savers is putting more pressure on financial services to gain a competitive edge and offer ESG products.
“The sector has come some way in developing and offering to pension funds, and other clients, climate-conscious financial products and funds,” he says.
Is ESG the inevitable future?
Across the industry it is no question that people are showing greater interest and awareness and that there is increased support for a responsible investment approach.
Research has more often than not found there has been increasing demand for low-carbon funds, funds investing towards a cleaner economy and more.
However, Ditchfield says this is not enough as there is a great deal that needs to be done around consumer education here as far too many people do not engage with pensions actively.
He explains that this is slowly changing as public awareness rises as well as campaigning activity, but there is a long way to go.
“More funds now use ESG data as part of their stock selection process, but this is quite different from sustainability,” he says. “This is because ESG is not a qualitative metric and will often focus on the sheer volume of data and analysis available on a stock.
“ESG is a poor fit with retail investing concerns as for private investors it’s the qualitative factors that are vitally important.
“Our expectation is that the Financial Conduct Authority’s work around fund labels will drive greater clarity and transparency in this fragmented and confusing marketplace.”
Meanwhile, Patel agrees that the shift towards sustainable investing will be the outcome in time, but he argues it is the transition that is “questionable and disappointing”.
He says: “Fund management groups who yield enormous financial clout as shareholders and bondholders argue that positive engagement is the best course of action rather than disinvestment from companies who contribute to environmental damage, poor labour relations and governance that places profit before people.
“The pace of moving to a sustainable investing universe appears slower than that required to reduce global warming.”
Sonia Rach is a senior reporter at FTAdviser
