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Why ESG investing is more relevant than ever before

29 Apr 2020

Technology increasingly impacts every aspect of our lives. This resonates now more than ever, as over the last few weeks our new ways of working and living require us to rely heavily on technology. Computers, tablets, phones and conference call platforms are now used almost constantly for both work and entertainment in our homes. And the rate at which we consume information also seems to be at a peak, although this has been on the rise for some time.

The internet has given us a voice and a platform to engage with billions of people at a click of a button. The result? A more informed and engaged population, including on the world’s most pressing environmental, social and governance issues, which have had a drastic impact on our lives.

Environmental Social and Governance (ESG) considerations have made their way into a consumer lifestyle. Mainstream restaurants now offer vegan menus as standard, the fast fashion industry is being held to account and you can now pay to offset your carbon when you jump on a flight. However, it is not just consumer spending habits that have changed. In the investment world, the last decade has seen a meteoric rise in demand for institutional funds that exhibit strong ESG alignment. Undoubtedly, this can be attributed to our general shift in consideration towards these issues.

Of course, the rise of ESG is not news for institutional investors, but the current global economic and social climate is likely to bring this issue into even sharper focus.

When I first started putting money into my pension pot, I don’t think ESG had yet been coined as a phrase. However, there has been a dramatic change over the last few years in the expectations of pension savers. Consequently, institutional investors are having to adapt to a ‘new normal’ where positive impact, not just positive financial return, is a requirement of investment strategies.

recent survey found that 70% of institutional investors, particularly in the UK, Canada, and the US now use ESG principles as part of their investment approach. In the UK, from October 2019, changes to pension scheme investment regulations mean that trustees must update their scheme’s Statement of Investment Principles to set out their policies on ESG, climate change and stewardship activities.

Institutional investors are under growing scrutiny and pressure to deliver more than simply ‘good returns’. They must also demonstrate a willingness to engage with the ESG related issues and make an impact with their investments. If not, they risk being held to account by regulators and beneficiaries alike.

Wholesale changes in the pension landscape have also helped push ESG to the top of institutions’ agendas. In the UK for example, pensions auto-enrolment means there are now 10 million more pension savers compared to 2012 (when auto-enrolment was introduced). £90.4 billion was saved into workplace pensions in 2018 alone, an increase of £16.8 billion compared with the amount saved in 2012[1].

At the same time, auto-enrolment has impacted the demography of pension savers. By 2017, auto-enrolment had almost doubled the participation of 22 to 29-year olds in pension schemes. This is a generation intent on exercising its social conscience. They are engaged with issues like climate change and, for many, their pension pot is one of the few levers for real change that they have access to.  

As this group continues to make up a larger proportion of savers in the UK, the general sentiment to pension saving is shifting. Increasingly, pension beneficiaries will demand that their trustees implement an investment approach that will help create a better world for them to retire into, rather than just a large retirement pot.

So, what does this mean for institutional investors?  

As mentioned, regulations are now being put in place to make ESG considerations a necessity, however, this needs to go beyond being a tick box exercise. There needs to be authentic engagement and dedication.

If you listen to noises from governments, for instance from the UK Pension Minister Guy Opperman, the role of pension funds in tackling societal issues is only set to increase. He believes trustees must think about beneficiaries’ long-term interests “by driving new investment in important sectors of the economy – helping to deliver sustainable environments, jobs and communities.”

To stay ahead of any future regulation changes, and to really engage with this new generation of investors, a fundamentally different approach is required.  

In the UK, a few institutions have led the way. The Church of England pension fund divested significant funds (around £600m) away from companies that weren’t deemed to be making progress towards the Paris Climate Agreement. Meanwhile, Brunel has threatened to sack fund managers who don’t get in line with ESG issues. These are significant steps and more institutions are following suit.

Pension trustees are encouraged to consider the long-term with their investment strategies, and it would not be hyperbole to say that without addressing climate risk, there may not be a long-term to invest into. Equally, there are some asset classes that have positive financial return prospects because they tackle long-term societal challenges.

In the conversations we have with institutional investors, it is therefore no surprise that healthcare real estate and renewable energy infrastructure sectors are becoming increasingly popular. The prospects for these sectors are supported by powerful long-term trends. Demand for healthcare real estate is driven by an ageing population, and the growth in demand for renewable energy infrastructure is being stimulated by the rapidly growing societal requirement to tackle climate change.

Beyond the current pandemic, healthcare real estate and renewable energy asset classes may become more relevant than ever. Climate risk will continue to be one of the most pressing issues facing the planet, now with the proof point that a country can quickly adapt to mass change where required. Meanwhile the pandemic has highlighted decades of underinvestment in the healthcare industry.

It would seem the obvious choice to put ESG at the front of any institutional investment approach, to go beyond a tick box exercise and embrace what should be considered the new normal.

What is your perspective on the themes touched on in this blog? How do you expect that the pandemic will change the institutional investment landscape? Will impact and ESG investing become more relevant beyond the current crisis?

We’ll be exploring a range of impact investment topics in more depth with a series of blog posts, so please do get in touch and share your perspective.

[1] Source: The Pensions Regulator, October 2019


Chris Hulatt