SPONSORED CONTENT | As a record amount of money flows into sustainable investments, asset owners and fund managers are coming under increasing pressure to prove their green credentials.

“What used to be considered more niche in the market, ESG investing has become more mainstream,” said Jens Peers, global chief investment officer of equities & fixed income at Mirova, where he helps oversee $US14 billion in sustainably-invested assets. “The rapid growth in the market has resulted in everybody wanting to jump on the bandwagon.”

In the US, the world’s largest asset management industry, $8.4 billion was invested in funds dedicated to environment, social and governance (ESG) factors in the first six months of 2019, data compiled by Morningstar shows. That compares to $5.4 billion that was invested in such funds for the entire previous year. As climate change concerns reach fever pitch, investment consultants and advisors say that demand for sustainable investing will only increase further in America and elsewhere including Australia.

And equity funds are overwhelmingly winning the lion’s share of money earmarked for ESG. An International Monetary Fund report published earlier this month estimates that of the $850 billion currently invested in ESG funds globally in 2019, equities account for $560 billion. And for the universe of funds that don’t have a specific ESG mandate but apply the same principles, that number is significantly larger. The Global Sustainable Investment Alliance estimates that at least $31 trillion was allocated to sustainable assets across developed markets in 2018.

The rapid demand for ethical investing has also resulted in an explosion in fund launches in what has been touted by the investment industry and the media as the ESG gold rush. The IMF estimates that there are around 1,500 ESG equity funds for investors to choose from and around 400 in fixed income globally today. The increase in competition has also given rise to “false claims” of ESG compliance in assets and funds, the IMF warned in its broader report on Financial Stability.

Green Washing

“Unfortunately the industry definition of what is sustainable investing is not very clear,” said Peers, who joined the specialist investment firm Mirova in 2013 in Boston. “Anybody can profile themselves as a sustainable investor, so there is a risk of greenwashing throughout the industry, where there is sometimes more marketing than substance.”

An affiliate of Natixis Investment Managers, Mirova was founded in 2012 and is dedicated to sustainable investment. All of their portfolios across their $6.7 billion equities team and their fixed income, multi asset and infrastructure teams are committed to achieving a 2 degree Celsius trajectory, in line with the goals set out in the Paris Climate agreement in 2015. Their equities team alone has 12 specialist analysts and 14 managers and their strategies range from environmental transition to carbon neutral. Natixis itself is a signatory to the UN-supported Principles for Responsible Investment, or PRI, initiative.

Jens Peers, Mirova

“Sustainability is not an exact science,” concedes Peers. “But a true strategy likes ours will always make sure that there is no exposure to companies that have a negative impact. Investing sustainably and generating returns can go hand in hand.”

Findings in the IMF report back this up. They found that the performance of sustainable equity funds were largely comparable with that of their more traditional counterparts. Mirova’s $1 billion Global Sustainable Equity Fund, for example, is up 22 per cent so far this year on an average annualized total return basis. And over three years, it’s up 14.3 per cent. Microsoft, MasterCard and Danish drug maker Novo Nordisk are among its top 10 holdings.

Australian superannuation consultant Jana Investment Advisers says there is an increasing expectation on fund managers to demonstrate how they are taking into account ESG-related risks in their portfolios. Australia and New Zealand already account for 63 per cent of the $3.1 trillion that is invested in sustainable assets globally.

“ESG is increasingly becoming more integrated and enmeshed into investment decisions at the fund level and it’s also what our clients expect us to do,” said Jana’s CIO Steven Carew. “It really comes down to manager selection. Some managers have quite glossy material, but when you actually probe them on some of the risks, they are not really there yet.”

Stress Testing

Carew said his super fund clients were also starting to review their asset allocation to see which of their investments were most exposed to ESG risks, such as climate change. The pension consultant recently developed a set of capital markets assumptions that stress test a client’s assets to see how they fare under two different global warming scenarios, one much worse than the other.

The IMF pointed to studies that estimate the economic and financial fallout from climate change could reach into the “trillions of dollars” if not addressed. “Delayed recognition of these risks could lead to a cliff-like moment when investors suddenly demand this risk be priced into asset values with potentially detrimental consequences for financial stability,” the report warned.

Willis Towers Watsons said climate change was the biggest priority for their clients, globally. Their head of sustainable investment in Australia Louise Lew said momentum to integrate ESG among asset owners accelerated after the Task Force on Climate-related Financial Disclosures, or TCFD, published their recommendation. She said the next challenge for her clients was trying to understand the risks at the strategy level.

These risks have also not been lost on regulators either. The Australian Prudential Regulation Authority earlier this year said it would increase its scrutiny on how institutions, including the $2.9 trillion superannuation industry, are managing climate risks and called on firms to take action.

First State Super, which is merging with VicSuper to become a $120 billion industry fund, says ESG is integrated across their entire portfolio. They adopted a responsible investment policy in 2014 and approved a climate change adaption plan in 2016. Their head of responsible investment, Liza McDonald, is currently in the midst of doing another review of the portfolio and updating their climate change strategy ahead of next month’s investment committee meeting.

ESG Integration

“ESG is embedded in every asset class, which makes every portfolio manager and every analyst responsible,” she said. First State were among six Australian super funds to be named world leaders in responsible investing by the PRI, joining a list of 47 global asset owners earlier this year.

As for engagement versus divestment, McDonald said First State’s approach was to engage with companies rather than pull capital which she described as a “very blunt tool.”

“Our approach is one of engagement around companies producing emissions and trying to invest in a solution to help transition to a low-carbon economy,” she said. “That is our strategy at the moment, but it is under review,” she conceded.

McDonald also said the fund had to be mindful of their members, many of whom worked in the communities where some of these industries such as mining are based. Unlike Norway’s $1 trillion Government Pension Fund, which in the process of divesting $13 billion in fossil fuel investments, First State’s higher allocation to Australian equities means they have exposure to energy and the materials sectors which make up more than 20 per cent of the ASX 300.

“We find many of our clients are willing to engage directly or collaboratively with a group rather than go down that divestment path,” said Willis Towers Watson’s Lew. “Many of these groups do try to have conversation with companies behind closed doors. You don’t have to have a seat at the table to use your influence to discuss and negotiate.”

Wielding Influence

Mirova’s Jens Peers says it’s not just the large pension funds who take significant stakes in a company that can wield influence on an ESG strategy. He said smaller investors like themselves were increasingly joining forces with other firms to advocate for change. With combined stakes sometimes representing more than 10 percent of capital, companies have no choice but to listen.

Shareholder support for climate-related resolutions climbed to an all-time high of 30 per cent in 2019’s proxy season, according to Morningstar, while the number of resolutions coming to a vote fell significantly. This is because many resolutions were withdrawn because of shareholder engagement with the company management team.

“We exercise our vote at AGMs, we engage and we combine with other investors,” Mirova’s CIO said. “If you are a mining company digging up coal, or an oil company, there is a limit to what you can do, but what people are asking for is to acknowledge the issue and have a long-term view.”

Louise Watson, managing director at Natixis in Australia said Mirova was a “key global player” in sustainable finance. “Making a real difference means putting your money where your mouth is,” she said.

Mirova U.S. LLC provides financial product advice and services to Australian wholesale clients as an Authorised Representative (No. 001277502) of Natixis Investment Managers Australia Pty Limited (ABN 60 088 786 289 and AFS Licence 246830).

Sarah Jones worked for Bloomberg News in London for more than 12 years covering equity markets and global asset management. Prior to moving to the UK, she worked for Australian Associated Press in Sydney covering economics and monetary policy.
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