The changing landscape of ESG investing

By Jayson Forrest - Managing Editor  - IMAP Perspectives

The changing landscape of ESG investing

Have the summer bushfires and COVID-19 pandemic changed the investing landscape? Speaking at the 2020 IMAP Adviser Roadshow, Leah Willis, Charles Stodart and Mary Campbell provide their views.

Mary Campbell - Goldleaf
Mary Campbell - Gold Leaf Financial Services
Charles Stodart - Zurich Investments
Charles Stodart - Zurich Investments
Leah WIllis Australian Ethical
Leah Willis - Australian Ethical

As advisers, I think it’s very important to upskill in order to better understand the impacts of climate change on portfolios, and to see how that might impact our clients’ financial futures, in order to be good fiduciaries, by acting in the client’s best interest.

Mary Campbell

The responsible investing landscape

Leah Willis: We saw through the recent bushfire crisis a rising consciousness of how people thought about their investments, including the impact their investments were having on the bushfires and climate change, and what they could be potentially funding.

We have seen a rising awareness of how people consider goods and services, and subsequently, we are seeing more products than ever before with sustainable labels. People are more conscious of the impact they are having with their everyday choices.

This consciousness is tipping over into investments. The Responsible Investment Association of Australasia (RIAA) has been benchmarking the responsible investing sector for well over a decade. In its latest report for 2019, RIAA recorded $980 billion worth of professionally managed assets in Australia now have some kind of ethical or ESG (environment, social and governance) overlay.

With this rising awareness of responsible investing, there has been a growing demand for ESG investments, resulting in more products coming to market. In fact, there has been a doubling of products available in the responsible investing sector over the past 12 months.

With more products, we’re seeing more choice for investors, allowing advisers to create more portfolios for clients to match their ethical considerations.

Responsible investing is going to mean different things to different people. It’s important that investors understand what each of these products deliver and what the output of these approaches are, so advisers can ensure they are aligning their clients’ needs, concerns or values to the advice they are recommending for them.

As more responsible investing products come to market, there is far greater ESG integration in the marketplace than ever before. However, some sectors, like tobacco and armaments, are key sectors that ESG providers are now screening for. But when it comes to consumers and what they are demanding from the screening process, it’s actually very different. Instead, fossil fuels and human rights are some of the sectors that consumers are more concerned about when it comes to screening their investments.  

This is a real turning point in the financial advice process, because consumers are now demanding and wanting different things than what ESG providers are actually providing. So, there is a need by fund managers to better understand these consumer concerns, in order to be able to address them in portfolios.

It’s important for advisers to understand that when it comes to ESG investing, when you start to put certain exclusions - both positive and negative screening across a portfolio - you end up with a very different outcome in your mainstream investment portfolio. 

During the recent bushfire emergency, we saw a doubling (if not tripling) of consumers switching their superannuation to Australian Ethical through that period, due to the rising demand by consumers of wanting to make a beneficial impact with their investments on what they invest in.

One of the problems that investors have had with responsible investing is there hasn’t been a clear benchmark of what ESG investing means. We have seen different attempts by different organisations to provide clarity and consistency around that...

Charles Stodart

Ethical investing: An adviser’s perspective

Q: What are some of the key considerations advisers should be aware of when advising on ethical investments?

Mary Campbell: I specialise in helping clients with ethical investments. I’m finding that especially during bushfires, more and more advisers were reaching out to me. They had clients who were asking them about the investments in their portfolio and what the impact their portfolio was having on climate change.

Over the last couple of years, I have also noticed an increase in consumers wanting to engage more actively with their investments, including superannuation. For example, they are more aware of the fees they are paying and are asking more questions about their investments, like a company’s involvement in money laundering or potentially, child trafficking.

There are a range of issues that everyday Australians care about, and it’s interesting to note that RIAA has some recent research that shows that around 9-out-of-10 Australians expect their money to be ethically invested and invested in industries and sectors that they see as the future, like renewable energy.

For those reasons, I think ESG and ethical investing is now more front-of-mind with consumers. From an advice perspective, I think it’s really important to consider your response when clients do raise these issues with you. In order to have an ethical investing conversation with clients, where they can voice their concerns about sectors they’re worried about, like gambling or fossil fuels, advisers first need to have the knowledge about ethical investing to lead that conversation with clients.

And to lead that conversation, advisers should look closely at their client’s fact-find and file notes, and structure their questions around some of those key issues that Australian consumers do care about.

But armed with that information, how far do you take a particular ethical issue with your client? For example, if it’s about fossil fuels, is it just an investment in fossil fuels that your client is concerned about, or is your client also concerned about the banks that provide the key funding to these fossil fuel companies?

By understanding your client’s concerns and by acting in your client’s best interest, advisers can shape the advice they provide to their clients around ethical investing.

And when it comes to the current regulatory landscape, when we are talking about climate issues, ASIC, APRA and the Reserve Bank of Australia have all stated that climate change is a material issue that needs to be taken into consideration.

So, as advisers, I think it’s very important to upskill in order to better understand the impacts of climate change on portfolios, and to see how that might impact our clients’ financial futures, in order to be good fiduciaries, by acting in the client’s best interest.

This means closely looking at the underlying holdings in portfolios. Fund managers and superannuation funds have different approaches to how they screen or implement their ESG analysis. Therefore, advisers should contact the fund manager, ask for further information on its process, and look at the underlying holdings.

Be aware that many funds have an investing threshold. For example, a fund may say it won’t invest in tobacco, as long as it’s less than 5 per cent of the portfolio. Therefore, it’s important to draw out some of those thresholds and talk to the client about them. Clients might be fine with a 5 per cent threshold for tobacco or they may have zero tolerance for it.  

ESG screening can be complex and confusing, and you really do need to get down to the finer details of a portfolio to understand exactly what a fund manager is doing and how that will line-up with your client’s expectations.

Leah Willis

Regulatory landscape

Q: How do you think the regulatory landscape around responsible investing is changing? How are fund managers responding to this changing regulatory landscape?

Charles Stodart: One of the problems that investors have had with responsible investing is there hasn’t been a clear benchmark of what ESG investing means. We have seen different attempts by different organisations to provide clarity and consistency around that, like the United Nations’ Principles for Responsible Investing, which was really just a voluntary disclosure framework that was launched in 2006.

We have the Sustainability Accounting Standards Board, which was launched in 2011. These standards tried to bring consistency around measuring the likes of greenhouse gas emissions, energy usage and water usage. About 90 per cent of key companies in the U.S. adhere to these standards.

More recently, we have had the Sustainable Development Goals from the United Nations. These goals are helpful in providing mapping or an approach for investors to consider.

The good news is the regulatory landscape is becoming more aware and helpful in relation to responsible investing, however, this is not always enforced or supported by Governments. For example, we had the Paris Agreement, but we have seen some important countries since withdraw from that climate agreement.

So, I think it becomes even more important for investors to take action. You can make a difference by allocating capital to low carbon investments. As an investor, you can put pressure on Governments to enact change.

Regulatory change is happening and investors need to be mindful of those developments. Regulatory change is moving in the right direction but in terms of consistency across benchmarks, they’re not quite there yet.

Leah Willis: You are seeing movement with regulatory change for responsible investing. In the European Union, regulation is being brought in for investment managers to consider climate risk in their portfolios. The Republic of Ireland has banned all exposure to fossil fuels, and New Zealand has regulated against exposure to many controversial sectors in its superannuation funds and KiwiSaver scheme. 

Portfolios in the COVID-19 pandemic

Q: What has been the response from clients towards their investment portfolios as a result of the COVID-19 pandemic?

Mary Campbell: As a lot of my clients have a tilt towards having a positive ethical impact with their investments, they do have exposure to healthcare and other related services. That exposure not only provides them with some financial stability but more broadly, they feel good that through their investments, they are contributing to helping address the coronavirus crisis.

My clients want to ensure their money is also making a positive difference in the world. It was a similar situation during the recent bushfire emergency. One way that my clients felt they could make a difference throughout the crisis was to move their money to investments that weren’t contributing to climate change.

People want to be part of a solution, especially during times of crisis.

ESG screening and reporting

Q: What is being done to standardise ESG screening and industry reporting?

Leah Willis: Australian Ethical has done a lot of work around this and we are taking a proactive role in educating advisers about ESG screening.

ESG screening can be complex and confusing, and you really do need to get down to the finer details of a portfolio to understand exactly what a fund manager is doing and how that will line-up with your client’s expectations.

There is a lot of information available on the RIAA website. Advisers can use the website to look for particular exclusions, thereby narrowing down fund managers for client portfolios.

Mary Campbell: Unfortunately, there are many approaches to ESG screening. So, it all comes down to ensuring that advisers conduct their due diligence to really understand the product.

Personally, I’m of the opinion that it’s good to have lots of different approaches. And while this can make it a little bit more difficult to navigate, it means you are more likely to find a product that really suits the client and their ethical considerations and tolerance.

There are resources available for advisers. RIAA has a ‘Responsible Returns’ resource, where advisers can search RIAA’s ethically certified investment products. It’s a good resource for advisers to tap into. 

Leah Willis is Head of Client Relationships at Australian Ethical.

Charles Stodart is Investment Specialist at Zurich Investments.

Mary Campbell AFP® is Principal Financial Planner at Gold Leaf Financial Services.

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