Richard Butcher says ESG is simply more of the same of what we do now, so why isn't it properly catching on?
I was chatting to an industry mate the other day and had a light bulb moment.
We were talking about environmental, social and governance (ESG) investing and some of the challenges it faces (more about which below).
ESG is about identifying and recognising the long-term risks in our investment portfolio, assessing their impact, making a judgement call on whether they are acceptable (which should be a simple value for money call) and if not, deciding what mitigating action is needed. In other words - and this was the lightbulb moment - the legal change requiring trustees to consider ESG is not a change in our fiduciary responsibility to act prudently; it is merely a change in the law requiring us to do exactly the same as we currently do, just with reference to three specific areas of risk.
ESG is, therefore, simply more of the same of what we do now.
So why isn't it properly catching on?
Firstly, and probably foremost, the on-going, frankly irritating and tiresomely stubborn, obstinacy of people to hear what we are actually talking about. Time and time again - in trustee meetings, consultant meetings, at round tables, at conferences - you hear the same line: ‘ESG is about values. It's about ethical investment.' It is not. ESG is about value. Singular.
If I come across as a tad frustrated, I'm sorry. I understand this is a complex argument, so I have sympathy for the lay trustee who has to try and get their mind round it. But get their mind around it they must and it is up to us, the industry people, the professionals, to help them do that. We owe it to them to commit the time needed to properly understand and convey the argument and to stop repeating the falsehood that ESG is about values.
The rest of the problems are genuinely practical ones.
While the evidence shows that companies considering ESG factors do perform better over the long term, the jury is still out on how that is proven in a pooled investment context. There are a number of issues and to start we have to first define E, S and G. The G, governance, isn't too hard (the FRC has some good guidance), the other two are tougher. Having defined them we then need metrics to measure. How do you demonstrate that a firm is making progress on E? Next, how do you demonstrate whether one asset is more S than another? You need benchmarks and these need to be developed.
And even if you can get through all of this, what, in practice can you actually do?
The big schemes can tell their segregated managers what decisions to make - whether to include or exclude things and how to vote. But small schemes (and the big schemes using pooled funds) have much less, in fact, perhaps even no, influence. At the opposite end of the big scheme scale the only leverage is the buying decision - "We will hire/fire this manager". That's a blunt instrument that could cause all sorts of unintended, unwanted damage.
There's one final problem - and it pays sinister homage to my "more of the same" argument. If this is more of the same (identifying, valuing and acting on long-term financial risk), what's to stop an asset manager from simply rebranding their current behaviour? A fund that before wasn't ESG compliant, suddenly becomes ESG compliant without any actual change in behaviours. Now for some funds, that could be completely appropriate. But for others? Well. This is going to be really difficult for trustees, IGCs and their advisers to navigate.
So this is more of the same. The challenges of addressing long-term financial risk, but let's not fall at the first hurdle. Let's at least recognise there is long-term financial risk.
Richard Butcher is managing director of PTL
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