We have seen a definite trend over the last few years which has seen a move from traditional “socially responsible” investment styles to a wider definition of what responsible investment and ownership means. This has been driven largely by the increasing interest in environmental and climate change related concerns and has focused investors attention on which companies both mitigate risks from environmental, social and governance matters but also seek to exploit new markets or gain competitive advantage. This definition has been drawn from the work of a UK based group who have developed a toll for investors to assess fund manager competencies in this area.
This emphasis has resulted in mainstream investors – not only the SRI or Ethical specialist houses - looking at risk and opportunity relating to the protection and realisation of shareholder value more than ever before. Today a combination of positive screening and engagement are the dominant styles across Europe.
One of the most significant initiatives is the UN PRI. This sets 6 principles of responsible investment practice developed by the signatories to which they all must support and apply. Signatories must also report on an annual basis how the are applying the principles and if not why not. The core principle is that ESG issues are material to financial performance.
In Europe, and particularly the UK, to avoid disruption to portfolio’s (often index tracking) many institutional investors have employed engagement approaches to the companies that they are invested in. This engagement process is aimed at investors becoming better informed and therefore able to make better investment decisions Engagement can cover a number of different issues, from strategy to corporate governance to corporate responsibility issues such as the companies approach to climate change. This is an example for a UK pension fund as to why they are an “active” investor.
However there is still much work to be done in terms of measuring both the effectiveness of engagement with companies and the costs/benefits of doing so. FTSE have with the FTSE4Good Index embedded an engagement approach into the management of the index. We report annually on which companies have improved their corporate responsibility disclosures and practices and those which have not and have therefore been ejected from the index. At FTSE we have clear defined engagement targets which are linked to the entry requirements of the index. We are also working on a CR Rating system to provide added granularity of information to our clients.
For asset managers, effective responsible investment practice involves a set of competencies in the following areas. Today, the majority of managers are weak in one or more of these areas however initiatives such as the UN PRI should help encourage change in this regard.
For listed companies there is also much to consider as more and more investors take an interest in their corporate responsibility and corporate governance practices. Hedge funds and private equity have taken increasingly aggressive positions with companies regarding corporate strategy, pensions liabilities and corporate governance and responsibility. Hedge funds in particular tend to be short term in view and can be particularly challenging for management particularly when an activist investor or investors wages a high profile campaign.
Furthermore companies want to encourage long term stable shareholder bases that they can work with and who will support the corporate strategy. To achieve this companies have to pay more attention to ESG issues than they do today and to how they communicate their performance to their key stakeholders.
Climate change has dramatically increased he interest in companies that will benefit from a low carbon or carbon constrained future. This is a fast growing area and today still has limited investment opportunities. FTSE have addressed this by pairing with a specialist asset manager in the E Tech space – Impax.
The reason that there is so much interest is for example shown here. We are all experiencing a change in the way basic services are delivered from heavy industrial, carbon intense and highly inefficient services. As the cost of producing technologies to transfer many of these industries to efficient, low pollution activities is continuing to fall. Many types of renewable energies are at or close to grid compatible in their economics. The potential growth is of great interest to global investors.
And finally Charles Darwin was a great naturalist and a pioneer of the theory of natural selection. Responsible investors are drawing on many of the parallels in Darwin’s thinking... A our economies and expectations of responsible business behaviour continue to change then investors are looking to identify not today’s strongest companies but those that will be best placed to adapt and grow – not wither and die.
Imogen Dillon Hatcher Managing Director – FTSE, EMEA Athens - October 2007 Responsible Investment Trends and Opportunities
What are we talking about? <ul><li>Responsible Investment is: “The incorporation into the investment management process (from analysis and research followed through to an investment related outcome) and on-going asset stewardship of social, environmental and corporate governance related matters. This may or may not include specific screening of investee companies based on socially responsible investment styles.” </li></ul><ul><li>Source: Responsible Investment Metrics Ltd </li></ul>5 May 2010 Page
SRI or Ethical Investment has a number of styles 5 May 2010 Page Positive Screening Negative Screening Engagement “ Dark Green” “ Light Green” “ Values/Ethics” “ Shareholder Value”
5 May 2010 Page UN PRI Launched April 2006 – 6 Key Principles Convened by UN Global Compact and UNEP FI 20 signatories representing USD 2 trillion at launch Today; 183 signatories representing USD 8 trillion 84 Asset Managers 83 Asset Owners 1 LAPF.
An “Activist” Pension Funds Rationale for undertaking RI <ul><li>Active long-term responsible shareholder – “if we can’t sell we have to care” – Bob Monks </li></ul><ul><li>Fiduciary obligations to ultimate beneficiaries </li></ul><ul><li>Protects & enhances value of fund’s investments </li></ul><ul><li>Encourage responsible corporate behaviour </li></ul><ul><li>Members’ attitudes towards RI and engagement </li></ul>5 May 2010 Page
The impact of engagement activities are still not well understood 5 May 2010 Page
For AM’s Effective RI practice involves <ul><li>Strategy, organisation & resources </li></ul><ul><li>Engagement </li></ul><ul><li>Integration </li></ul><ul><li>Voting </li></ul><ul><li>Transparency </li></ul>5 May 2010 Page
Companies - What are the challenges <ul><li>The roles of agents and hedge funds make it difficult to identify who owns a business at any one time e.g. </li></ul><ul><li>- during Phillip Green bid for M&S, hedge funds went from 0 – 20% of company register; - long only investors uniting with hedge funds e.g. Deutsche Borse bid for London Stock Exchange </li></ul><ul><li>PR risk of being publicly targeted by an activist investor </li></ul>5 May 2010 Page
Companies - What are the challenges cont <ul><li>Academic research is emerging that links activism with abnormal returns </li></ul><ul><li>Distinctions between activist, private equity and hedge funds are blurring – similar techniques used </li></ul><ul><li>Development of long term stable shareholders to support management in the implementation of corporate strategy </li></ul><ul><li>Responsible investment/ownership is emerging as a mainstream investment process </li></ul>5 May 2010 Page
Increasing Interest in Environmental Markets 5 May 2010 Page <ul><li>Environmental Markets estimated to exceed US$150bn per year </li></ul><ul><li>Environmental Markets growing at up to 30% p.a. based on proven technology, sound economics and supportive regulation </li></ul><ul><li>Company performance driven by growth, rising multiples and corporate activity </li></ul>1
Changing structure of basic services 5 May 2010 Page Energy Water Waste 6 <ul><li>Market liberalisation </li></ul><ul><li>- competition & innovation </li></ul><ul><li>- value for money </li></ul><ul><li>Environmental policy </li></ul><ul><li>- limited resources </li></ul><ul><li>- health issues </li></ul><ul><li>Competitiveness of cleaner solutions </li></ul><ul><li>- falling technology costs </li></ul><ul><li>- high fossil fuel prices </li></ul>
Looking ahead <ul><li>Pressure on pension funds to be responsible long-term investors will grow </li></ul><ul><li>The definition of fiduciary duty will evolve </li></ul><ul><li>There will be more peer benchmarking (managers and asset owners) </li></ul><ul><li>Corporate pension funds will get engaged </li></ul><ul><li>Pension funds will become strategic co-partners </li></ul><ul><li>The definitions of responsible investment will broaden by theme and asset class and become the “norm” </li></ul><ul><li>There will be a shift to “Best in Class” using comparative performance ratings from broad ethical approaches </li></ul>5 May 2010 Page
And finally…. <ul><li>"It is not the strongest species that survive, nor the most intelligent; it is the ones most adaptable to change." </li></ul><ul><li>Charles Darwin </li></ul><ul><li>1809 - 1892 </li></ul>5 May 2010 Page