ESG – Investors setting the pace for change

Once seen as niche, or even for some as a PR stunt, investors now regard ESG factors as part of their mainstream focus – accelerated by the pandemic and global events of 2020 & 2021.

The percentage of investors adopting ESG rose by 18% between 2019 and 2021. Here we outline the three reasons why ESG is one of the only changes in the financial services industry where consumer demand is setting the pace ahead of regulation:

1. Social Justice

Investors have realised that ‘return’ means more than simply a fund’s performance. Return can encompass many areas that are vital to the survival and prosperity of society as a whole – one of these areas is social justice.

In 2020, the Black Lives Matter (BLM) protests alerted the world to the long running inequalities that exist across society. Investors are not immune to global events, such as BLM, and they have demonstrated increasing interest in funds and businesses that adhere to ESG principles as their way of attempting to bring about social justice. Every single company is now under a spotlight and any lack of diversity in their senior management and or negative employee/customer experience can easily be broadcast – particularly on social media.

Many organisations are expected to take action to improve the ethnic diversity of boards this year. Consumers are starting to hold individual companies to account when thinking about their purchases, similarly, investors will no longer invest in funds that pay lip service by investing a relatively small sum in companies with undefined or unclear ESG credentials.

Societal pressure for social justice is one of the recent factors behind the increased popularity of ESG investing and MSCI data suggests that ‘millennial’ investors will regard ESG issues as a top priority, more than the traditional measures of return.

2. Covid-19 Fund Performance

Investors and fund managers are aware that investing in ESG propositions does not mean sacrificing performance. This was further illustrated by the resilient performance of ESG funds against the backdrop of covid volatility.

S&P Global Market Intelligence analysed 26 ESG funds and found that 19 of those performed better - rising between 27.3% and 55% - than the S&P 500 between March 2020 and March 2021. In comparison, the S&P 500 increased by only 27.1%.

Data from FE Analytics finds many ethical funds that have consistently outperformed their sector benchmarks. For example, since the start of the pandemic in March 2020 the Brown Advisory US Sustainable Growth fund returned 48.80% to June 2021 compared to the IA North American Sector benchmark’s 36.39% over the same period and Liontrust’s Sustainable Future UK Growth fund has outperformed the IA UK All Company sector during the period of the pandemic (returning 25.42% to the sector’s 19.22%).

Strong performance during difficult times inevitably translates into more investor interest in ESG funds. Trustnet (powered by FE fundinfo) reports an increase in the interest shown in their ESG fund coverage, with page views increasing by more than double from 655,000 in 2019 to over two million in 2020.

This suggests that ESG strategies are no longer a ‘nice to have’ but becoming an integral part of an investor’s overarching strategy.

3. Stewardship Codes

Stewardship can be defined as “the use of influence by institutional investors to maximise overall long-term value including the value of common economic, social and environmental assets, on which returns and clients’ and beneficiaries’ interests depend.”

With this in mind, a number of jurisdictions and investment bodies have developed stewardship codes. For example, the European Fund and Asset Management Association (EFAMA) created a stewardship code which sets out six guiding principles that asset managers can use as a European wide reference document to improve transparency and demonstrate their commitment to stewardship.

In the UK, the UK Stewardship Code was revised substantially in 2020, establishing a clear benchmark for stewardship in the UK and introducing new expectations on the integration of investment and stewardship concerning ESG issues. The code introduced 12 principles for signatories to abide by along with the requirement to report on stewardship activities undertaken and outcomes achieved.

The Code also requires signatories to take material ESG factors into account, ensuring that companies’ ESG reporting is now fully visible to, and fully understood by, investors.

Across the globe, responsible investment bodies have been setup to encourage asset managers to adopt ESG principles. The Principles for Responsible Investment (PRI) was created by the UN to encourage asset managers to incorporate ESG factors into their investment decisions. It defines six guiding principles for responsible investment and has attracted many signatories – including FE fundinfo.

Pan-European regulations such as the Sustainable Finance Taxonomy Regulation and the Sustainable Finance Disclosure Regulations (SFDR) have also helped provide a more coherent and transparent ESG framework. The taxonomy regulation provides clear definitions and a ‘common language’ on environmental activities. The SFDR requires all asset managers in the EU to report on their ESG practices. This regulation has a strong focus on transparency and requires asset managers to report on how they integrate considerations of ESG risks into their investment process and if they don’t, then why not. Find out more about FE fundinfo’s thoughts on SFDR here.

ESG has long suffered from a lack of clear definitions and reporting. The guidance and encouragement from investment bodies, mentioned above, helps address this and they are a step toward a standardised ESG framework which has arguably helped bring about the increase in ESG fund allocation by investors during 2020 & 2021.

FE fundinfo and ESG

The industry is experiencing change, but it’s not in the way fund managers are accustomed to. Traditionally, fund managers were guided by regulatory change and consumer behaviour followed suit. Now the industry is being driven by consumer demand for more socially responsible and sustainable investing, yet ESG regulation is behind the times in offering fund managers guidance and clarity on this topic.

Therefore, the need for trusted and insightful ESG information is needed now more than ever and FE fundinfo’s ESG reporting capabilities, alongside our expertise in ESG data, fund marketing and distribution can help your company promote your own ESG proposition.

Contact our ESG specialists