The term ESG will be completely redundant in five years according to one fund manager as people realise you cannot separate ESG analysis from financial analysis.
Alex Duffy, an emerging markets portfolio manager for Fidelity International, said that investors cannot separate the two analysis.
“There's no difference between ESG analysis and financial analysis. You cannot separate the two,” he said.
Mr Duffy said that the term ESG had certain connotations, ones that implied there was a difference between ESG investing and regular investing.
“I feel that the term ESG is going to be totally redundant in five years. Anyone that tells you they are an unsustainable investor which is the other side of the coin that doesn’t make any sense,” he said.
Mr Duffy said when he researches a company he finds out what they do and how it makes money but importantly he asks why can’t another company do it cheaper?
“If the answer is another company can't do it cheaper because this company achieves that profit by exploiting child labor at a low cost, I know that that is an unsustainable cash flow profile. That level of profitability is just not sustainable,” he said.
The emerging markets fund that Mr Duffy runs pays 20 times earnings for companies and he said for that to be achieved a cash flow process had to be sustainable.
“I don't think you can differentiate between fundamental research in the traditional sense and disaggregate sustainability from that,” he said.
While Mr Duffy’s fund does not label itself as an ESG fund, one of the key pillars behind the fund is governance.
“I’m very prudent in how I allocate capital with a strong focus on governance and balance sheet structures, I seek to mitigate permanent loss of capital overtime,” he said.
Governance is a key driver of environmental and social outcomes, said Mr Duffy, as it is usually a driver for sustainability.
“If you have a robust governance structure in place it tends to lead to sustainable outcomes for the business because they're forced to think about long term implications for the company and to think about the sustainability of the business' over multiple years,” he said.
The other complication with the ESG was the difficulty in analysis environmental and social metrics due to disclosure said Mr Duffy.
“When you measure something across sectors and countries it has to be uniform and tangible and quantifiable.
“Environmental and social outcomes are more intangible in nature and rely more on disclosure at a corporate and industry level and are more difficult to cross check,” he said.
By not excluding businesses due to ESG concerns, Mr Duffy said he was able to engage with companies and change behaviours.
“Where we can add real value through our work is to identify those businesses that are beyond minimum thresholds in terms of expectations but encourage them to address their behaviours in a way that enhances the long-term sustainability of their cash flow profile,” he said.
And that engagement was key for better companies and ultimately better investment outcomes, said Mr Duffy.
“To engage with companies and help them improve, if we do that successfully we will create a significant amount of value as the companies will get better. That’s how we seek to address ESG concerns.”
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