ESG seems to be on everyone’s lips right now across financial services, and the bulk of institutional investors have some public commitment to responsible investment.
In Australia, we recently tipped over half of the professionally managed market having a commitment to responsible investment, whether that be taking an ethical investing approach, or, more commonly, incorporating the consideration of environmental, social and governance (ESG) factors in investment decision-making to improve investment risk profiles.
Responsible investment has become a licence to operate in this market, with three main factors at play behind the shift:
1) It is becoming evident that sustainable companies make better investments. There has been extensive focus in recent years on how “non-financial” issues – whether those are environmental (such as climate change risks), social issues (such as fair payment of wages), or corporate governance issues (such as corporate conduct and culture) – when badly managed, damage the bottom line of a business and its share price. Companies that are managing these so-called non-financial issues find they are much stronger financially as they are proactively managing significant business risks. (Perhaps it’s time to find a better term, such as “extra-financial issues”?)
2) ESG is in the process of becoming embedded in the policy and regulatory frameworks within which the financial services industry sits, with ESG becoming one of compliance.
The reporting and disclosure requirements around ESG issues for listed companies were recently strengthened under the updated ASX Corporate Governance Principles. The financial services regulators, both APRA and ASIC, have been strongly expressing their expectation that financial services companies need to demonstrate how they are managing for climate change risks. And internationally, the European Commission is establishing regulations that enforce financial institutions – from pension funds, asset managers and insurers – to report on how they are considering ESG risks while also establishing regulations that will require financial advisers to proactively seek out the sustainability preferences of their client base. This will redefine important financial market practices, ensuring that ESG sits as a core part of acting in the best interests of clients, and a key requirement to fulfil within the context of fiduciary duties.
These overseas regulatory developments are important because, in today’s global capital markets, international financial organisations with a footprint in Europe will be captured by these changes, and this will become their standard operating requirements across their global operations. As such, we’ll start seeing these regulations being enacted in the Australian operations of global fund managers and wealth managers. These regulations will spill over into our market and form the benchmark of best practice.
3) Consumers – our clients – are in ever greater numbers asking for those entrusted to manage their savings to consider how their investments are avoiding harm and creating positive social and environmental impacts. This has typically presented itself by clients seeking to avoid industries that do harm such as weapons, tobacco, gambling and fossil fuels. Internationally, the European Commission is establishing regulations that enforce financial institutions – from pension funds, asset managers and insurers – to report on how they are considering ESG risks while also establishing regulations that will require financial advisers to proactively seek out the sustainability preferences of their client base.
A shift is on in responsible investment that is taking us beyond just avoiding harm and managing risk to a new stage that sees investors asked to account for the social and environmental impact of their portfolios.
We’re seeing the rapid emergence of managers doing this – reporting on ESG metrics and setting targets for their portfolios, from carbon intensity to alignment with Sustainable Development Goals, from their voting activities to the outcomes from their corporate engagement.
Responsible investment can no longer be a set-and-forget strategy, it needs to adapt to emerging client concerns, to a rapidly evolving policy context, and proactively contribute to addressing our key social and environmental challenges.
This will facilitate a better relationship between financial advisers and their clients, ensuring the next generation of advisers are delivering advice that is so well tailored on a financial and values base, that it’s well beyond what a robo-advisor can deliver.
Without this, advisers and fund managers risk losing clients who are seeking more depth and values alignment to the growing cohort of advisers and managers who are delivering just that.
Tips for financial advisers:
1. Do your research. ESG information at a fund and stock level is ever more freely available, built into fund ratings, platforms, ratings agencies and even free online resources.
2. Develop your approved product list. It’s critical that you have products that meet the ESG and impact needs of your clients. As a start, see the 150+ RIAA Certified Products on www.ResponsibleReturns.com.au
3. Know your clients. It starts with a question. As part of your fact-find process, ask your clients about their preferences and values to ensure you are meeting their needs.
4. Keep up to date. It’s a fast-moving area, but there are plenty of resources to keep up to date. Sign up to RIAA newsletters via www.responsibleinvestment.org.au
RIAA, with the support of AXA Investment Managers, has published the Financial Adviser Guide to Responsible Investment.
Simon O'Connor, chief executive, Responsible Investment Association of Australia; and Matt Christensen, global head of responsible investment, AXA IM; and Simon O'Connor, CEO, Responsible Investment Association of Australia
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