Newton Investment Management’s Rob Stewart considers how DC schemes can respond to new rules on disclosing ESG policies
This year, with climate change having been thrust into the spotlight by the actions of Extinction Rebellion, Greta Thunberg and others, it is perhaps unsurprising that there has been a growing focus on the investment implications of environmental and sustainability issues. Furthermore, The Pensions Regulator has stated that climate change and other environmental, social and governance (ESG) considerations are core financial risks that trustees must consider when setting investment strategy. As a result, defined contribution (DC) schemes' statements of investment principles must now include policies relating to how they take account of ESG considerations.
With scheme trustees having ultimate responsibility for these matters, they will be required to explicitly consider ESG factors when appointing and monitoring asset managers, and it will be important to demonstrate that ESG factors are being taken seriously and integrated into investment decision-making. A key element of a trustee's fiduciary duty is to keep investment costs down, so it is logical that many schemes will look to passive investment strategies with an ESG dimension. Obliged to invest in hundreds or even thousands of securities, these index-trackers do the best job they can of looking at the underlying companies and engaging with them. However, they cannot ultimately withdraw investment in a company if it does not seek to change perceived ‘bad' corporate behaviour.
To us, the advantage of an active approach is that it affords the opportunity to identify firms that are improving their behaviour through engagement, and thus share in their subsequent profit improvement over time. Indeed, evidence suggests that, by focusing on actively engaging with firms on responsible investment factors, investment returns may actually be enhanced1.
The most direct form of engagement is taking an equity stake and voting. However, we also believe that maintaining a meaningful dialogue with a firm is vital in helping to deliver better outcomes for shareholders, companies and society. For example, we have been working with firms to address the issue of child labour in battery supply chains, and are pushing for greater diversity on company boards, as there is strong evidence that it improves decision-making. These interactions are time-intensive, impactful, and why we believe it is more effective to manage focused portfolios than to sprinkle engagements over hundreds of firms.
Recent studies have highlighted that the vast majority of DC members would like their investments to contribute to improving the global environment2. While there is no ‘one-size-fits-all' solution, we believe that a purposeful and active approach to responsible investment could be one way to help members achieve a dual outcome of investment returns and positive societal outcomes.
Rob Stewart is head of responsible investment research, Newton Investment Management
1 See, for example, https://academic.oup.com/rfs/article/28/12/3225/1573572
2 Source: The Conference Board® Global Consumer Confidence Survey, conducted in collaboration with Nielsen Q2 2017
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