ESG InvestingJun 16 2022

Knowing what the right product recommendation looks like

Supported by
Quilter
twitter-iconfacebook-iconlinkedin-iconmail-iconprint-icon
Supported by
Quilter
Knowing what the right product recommendation looks like
(Alexander Schimmeck/Unsplash)

According to Laith Khalaf, head of investment analysis at AJ Bell, advisers are likely to come across customers who fall into three different camps:

  • Those who are not concerned about ESG considerations;
  • Those who are concerned but do not have any firm ideas about what this means for their investments; and
  • Those who have definitive ideas about how they want their own ethical preferences to be reflected in their portfolios. 

Khalaf adds: “Advisers can triage their clients to find out which of these groups they sit in, and provide suitable recommendations accordingly, while also explaining any limitations in terms of the investment products meeting the ESG preferences of customers, particularly those with very clearly defined views. 

“Ultimately pure ESG investors cannot gain quite the same absolute level of diversification as unconstrained investors, but they can still achieve an appropriately high level of diversification which doesn’t expose them to too much stock or sector risk.”

Questions must also be asked about the three pillars of ESG to drill down into the specifics of each to assess, and then deliver on clients’ wishes.Nigel Green, DeVere Group

Mollie Thornton, a senior investment manager at Parmenion, says while ESG investors do face additional constraints – generally avoiding investments in companies involved in weapons, tobacco and human rights abuses or excluding companies involved in areas such as fossil fuels, gambling, animal testing and alcohol production – there are increasing investment opportunities in companies exposed to ESG themes such as renewable energy, waste and recycling, water, electric vehicles and plant-based meat.

She adds: "At a fund level we find there is a huge range of equity and bond funds available with different ESG and sustainable mandates, so we have plenty of choice to find leading funds with the highest ESG standards. We do find there are fewer ESG funds available in alternatives asset classes, such as infrastructure and absolute return, although this is increasing."

Claude Brown, partner at Reed Smith, says: “In some senses, ESG investors cannot gain the same level of diversification as unconstrained investors as there are certain investments which would never pass muster in an ESG investment portfolio. However, that has to be balanced against the risk of investing in non-ESG assets and the rewards from investing in ESG ones.”

If the investment advice process is broken down, it essentially consists of three parts: assessing the client, selecting the right investment based on that assessment, then reporting on the investment on an on-going basis, typically at a client review meeting. 

The advice journey itself does not change as the component parts are still the same. However, advisers need to factor their clients’ preferences in these areas.

Asking the right questions

Quilter investment specialist Andy Miller says the company has run surveys with advisers who have told the business they are asking clients about their ESG preferences, however the main question that is often asked needs to be tweaked.

For example a question like, 'Do you have any ethical views that may influence your investment selection?' is too vague to drill down as everyone has some kind of ethics.

Additionally, it also does not really help a client understand the effects on their investments as the question only offers up a yes or no answer, according to Quilter. 

 

 

We have plenty of choice to find leading funds with the highest ESG standards.Mollie Thornton, Parmenion

 

 

 

 

This can make it a challenge to really understand a client's preferences as people have a range of opinions and feelings in these areas.

A survey last October from the Office for National Statistics showed that 75 per cent of people in Britain are worried about climate change. But not all are worried to the same degree.

Miller recommends advisers consider the following when asking a client about views that may influence their investment choice, whether on the subject of ESG or anything else:

  • Avoid binary yes or no questions, as it does not reflect a range of views.
  • Ensure that questions are clear and easily understood – and that means they also should not be biased or misleading. 
  • Ask a meaningful but manageable number of questions. Enough to provide a meaningful response, but not so many as to turn clients off. 

At Quilter, the company has developed a responsible investment profiler designed to help advisers. It is a short series of questions designed to help advisers understand their client’s views.

Nigel Green, chief executive and founder of DeVere Group, says to meet clients’ expectations and/or requirements when it comes to ESG it is essential that advisers ask good questions.  

He adds: “There needs to be a far-reaching general fact-find along the lines of, 'How important is it that you invest in entities with a responsible and sustainable agenda?'

“But then questions must also be asked about the three pillars of ESG to drill down into the specifics of each to assess, and then deliver on clients’ wishes.”

Challenges 

When it comes to the finer details of finding a solution for the client, the challenges increase.

For example, the list of funds labelled as sustainable/responsible/impact is growing on a daily basis and there is still uncertainty that a fund’s name will accurately identify what is happening under the bonnet. 

Ryan Medlock, senior investment development and technical manager at Royal London, says as there has been an increasing number of managers announcing their intention to incorporate ESG risks and opportunities into their investment processes, integrating some form of ESG considerations into the advice and due diligence process is going to be critical for the advice community.

However, he adds, there are no shortcuts when it comes to due diligence in this area and it is likely to reflect a whole new strand to researching investments. 

Medlock says: “It’s a good idea to request a copy of a manager’s UN principles for responsible investment assessment report if indeed, if they’re a UN PRI signatory. 

“This is a great starting point for managing due diligence as the report is broken down at organisational and asset class level. It’s also a good mechanism for benchmarking managers on responsible investment considerations and getting due diligence processes off the ground.”

Advisers should shift from looking at ESG investing solely through the lens of exclusionary tactics.Alix Lebec, Lebec Consulting

ESG integration is different for each adviser, and particularly, for each asset class. 

It can often depend on the adviser's unique ESG goals and objectives, which is often dictated by their stage of the journey and values as a business.

Alix Lebec, founder and chief executive of Lebec Consulting, says there are different tools and data sources that can help advisers; for example the Impact Assets 50 list, an open source database that comprises impact investment fund managers.

She adds: “[It] represents a meaningful opportunity to help ESG investors proactively meet their objectives. The idea here is to encourage engagement in addition to divestment. 

“Advisers should shift from looking at ESG investing solely through the lens of exclusionary tactics, whereby negative or harmful investments are simply screened out, and rather proactively also move toward the intersection with impact investing to create real, tangible change for people and the planet.

"There’s nothing wrong with the former method, it’s just passive."

Lebec notes: “We are now seeing many investors shift to a more proactive approach, investing in ways that intentionally and positively impact people and the planet. These investors are influencing the way companies integrate ESG for the long-term.”

But the challenge remains. There needs to be a consistent standard for measuring ESG.

“As controversial as this may sound, we believe that ESG ratings based on the measurement and tracking of data and key performance indicators by these vendors are very contradictory, as they stand today," Lebec says.

“What we need is a consistent standard moving forward. Until we have that, it will be difficult for advisers to understand the best way to undertake due diligence that will ultimately lead to the best ESG recommendations for investors."

Ima Jackson-Obot is deputy features editor at FTAdviser