Is Environmental, Social and Corporate Governance (ESG) investment a marketing hype, or a positive force that can change capitalism and finance for good?
Over the years, I was trained by my managers to be an investment sceptic. I have seen many investment products that were launched and backed by compelling stories. Yet the underlying design and management process did not deliver what investors had expected. . Worse, some were merely repackaging an old investment product with new spins.
So you can guess that my initial view on ESG investments was negative. It was just another hype that was used by product development departments of large fund houses to grow AUM and fee income. As I cited a few times before elsewhere, many investment professionals shared my cynicism in a CFA European Investment Conference a few years ago. The risk was that the investment industry would cover this important subject with a heavy layer of ‘greenwashing’.
But my view on this matter has changed over the last 12 months. A few trends are telling me that the investment industry is genuine – and serious – in trying to integrate ESG into the investment process.
The first trend is that there is a growing consensus among industry players that some kind of standardisation of what ESG means is required. As I observed in a Tricio's Monthly Insights ESG column before on passive ESG index funds, two indices can be labelled ESG even when they are constructed differently. Investors and their advisers can easily get lost in the jungle of ESG terminologies. Authorities, governments and global professional organisations also acknowledge that it is essential to have standardisation, both for regulatory control and fair competition across markets.
The second trend is the growing recognition that genuine ESG investments can only be managed professionally with a rigorous process. This means dedicated resources, integrating with the traditional analyst and fund management team, to ensure the resulting ESG portfolios can really meet the stated investment objectives.
The third trend is the concept of product governance, which is enshrined as regulatory requirements under Mifid II in the EU (including the UK). The result is a change in product development culture in many product providers. Product development and investment management teams must identify the target market, understand its needs, and explain how their products can meet investors' ESG requirements.
The recent publication of the consultation paper on ESG disclosure standards by the CFA Institute is a good illustration of these three trends: standardisation, investment processes becoming more professional, and the need to communicate product features effectively to end investors. In the September issue of Tricio Monthly Insights, I shared the table below from this paper. The paper proposed to classify ESG product features into six categories and map to five types of ESG needs of end investors.
This table may change as the CFA Institute receives feedback on the consultation paper. But the fact that we see the publication of this table (and other similar ones published by other organisations) is a positive sign. It shows that the industry is treating ESG seriously, rather than a marketing hype where firms try to make some quick money.
For this reason, Tricio is also taking ESG seriously. We will participate in the CFA Institute's consultation and urge other professional investors, advisors and fund managers to do so before the 19 October 2020 deadline. We will also work with advisers and professional investors in supporting their ESG investment needs.
James Chu CFA, Head of Investment Solutions
Source: Consultation paper on the development of the CFA Institute ESG disclosures standards for investment products, CFA Institute, Aug 2020