The past year has seen a series of challenges to the sustainable investment industry; negative rhetoric and a political backlash in the US, challenging market conditions and a cost-of-living crisis meaning investors are questioning where they will get the best returns.
In this panel discussion, senior investment industry professionals dissect this changing climate and respond to those challenges and explain why we should welcome the criticism of ESG and the negative rhetoric.
They address performance concerns surrounding ESG portfolios and explain why the industry has welcomed the Financial Conduct Authority’s latest proposals under the Sustainability Disclosure Requirements consultation.
Finally, they discuss the enormous consequences of climate change and why we need more from governments on net-zero policy and how this can be tackled alongside the cost-of-living crisis.
- James Alexander, CEO, UKSIF
- Jake Moeller, senior investment consultant, Square Mile
- Siobhan Archer, sustainable investment specialist, LGT Wealth Management
The full panel discussion can be viewed in the video above and a transcript is below.
See also: – All ESG Clarity‘s COP27 coverage
NK: Hello and welcome to a very special panel discussion on the changing climate for ESG. I’m Natalie Kenway, global head of ESG Insights for ESG Clarity, and I’m joined today by some industry experts to talk about the current issues in the ESG investment landscape.
Thank you so much for your time today. The first thing I wanted to talk about is this has been quite interesting and as in there’s been quite a lot of negative factors around when we’re talking about ESG compared to the last two years when it’s been really, really positive. This year there’s been some backlash in the US, underperformance and we’ve had some well-known critics come out and say some really negative things. What has been the root of these really negative things that are coming to the forefront of the discussion around is ESG? James, I’ll come to you first.
JA: It’s a great question and it’s really important to recognise that we are seeing these headwinds, but I think we’ve also got to think about where they’re coming from. We are seeing people like Mike Pence, former US vice president, who knows nothing about investing or sustainable investing, but has heard about this through the lobbying and engaging with the Republican Party, and through this almost anti-business lobbying that is beginning to recognise that what we’re doing in sustainable finance is having a positive impact in moving the world in the direction that we want to see it, which is towards a sustainable future and people are being to feel threatened by this.
What we’re starting to see, in my opinion, is, the Republican Party that is threatened by and very much in the pocket of big oil companies and others, is beginning to see this having a tangible and real impact to these to these firms.
That is clearly where in my mind where some of the backlash is coming from. And I think we’ve got to be very clear that this is not a backlash necessarily based on ESG itself. It’s based on the threat that Republicans in particular are seeing from the ESG agenda to what they’re trying to do and to the people that they are their financial backers.
I think at the same time is also important to recognise there are some challenges inside this sustainable finance industry that we do need to consider and address, one of them being data and the ratings in particular that we have. There’s lots of kind of black boxes where lots of data goes in that’s not always perfect data because it relies on corporate disclosures, and then something happens in that black box and out the other end comes a rating scale.
Then you get people like Elon Musk who look at the ratings and see that Tesla, which is an electric vehicle manufacturer and to many people on the street you would imagine that would score very highly because it’s performing well on the environment but its rated lower than Exxon, which of course is a fossil fuel company – there is a misunderstanding of what that’s about. Tesla is a company that has really serious governance challenges. It’s very easy to assume that something [with the rating] is going wrong because it doesn’t look like the right answer. But then you dig deeper and you find out what’s happening. I think we’ve got to be clearer and more transparent about how these data ratings are coming through.
NK: Yes, absolutely. Siobhan, you’re managing ESG portfolios so can you talk about the performance, what’s happened there and what’s been your clients’ concerns?
SA: Yes, and I do want to just pick up on a point that James has brought up, because I think a lot of this is not new, and I think that’s something that’s quite exciting. These conversations and these critiques used to happen between portfolio managers, CIOs, behind closed doors, and now it’s made its way into the forefront with Elon Musk tweets, the front page of the Financial Times (FT).
It’s happening and it’s a lot more mainstream, but I don’t think the criticism is new in terms of clients’ portfolios. I think one thing that I want to sort of reiterate is that we were quite surprised, also pleasantly surprised, that a lot of our sustainable clients aren’t as worried as our traditional clients because they’re getting a secondary outcome, a secondary return around environmental and social benefits, which is quite nice.
It is true that if you look at standard ESG portfolios versus conventional ones, they have underperformed. That’s a classic value growth rotation/oil stocks that have performed well. But if you look at sort of clean energy and clean energy trackers, they are still doing well. So it is a sector trend rather than the whole spectrum.
NK: Okay, great. And Jake, do you agree these these criticisms and debates should be welcomed? We should be addressing these?
JM: One thing that is worse than being talked about is not being talked about and I think a lot of the tailwinds driving the success of ESG has been government policy. And as this becomes discussed more it becomes politicised by the very fact that the government’s involved. We’ve got to remember, in the US they fiduciary duties haven’t been tested to the same extent as they have in Europe and in the UK. We had that famous Scargill versus Cowan case many years ago, which prompted the discussions around fiduciary duty and some of the implications for ethical and ESG investing out of the way. This really hasn’t happened in the States yet. Yes, you have a value/growth tilt in some of ESG portfolios, which is ahead, but I don’t necessarily see it as a bad thing, it’s an evolution of discussion where when governments are involved, voters are going to start politicising it. It’s not a bad thing necessarily, it’s just another step in the discussion.
JA: On the underperformance piece, I don’t think we need to be panicking too much about this stage.
NK: It’s very short term.
JA: It is, and there’s always going to be fluctuations. I think one of the challenges with oil and gas is that it’s always seen fluctuations, it’s very hard to find a stable, long term trajectory for oil and gas, and that’s been a problem for a very long time.
If we start talking about ESG underperforming, then that almost is the wrong message, because it’s not. The fundamental underlying rationale is that when you take into account more externalities as risks and consider those risks more carefully as part of your investment decisions, which is what ESG is fundamentally all about, then you make better investment decisions in the long term.
It’s about the long term we need to be thinking about here. I imagine all of us will still believe that things that take into account ESG factors will always perform better in the longer term overall.
NK: Okay, absolutely. Another thing I wanted to ask is where do these critics have a point? We have seen companies being called out for greenwashing. So, what can we do to make sure this isn’t still happening and where can we improve?
SA: I think there’s a big difference between academic criticism and constructive criticism, which is what we’re seeing at the moment, with a lot of polarisation and maybe people coming out just to be sensationalist, have their headline in the FT or for them to get a new job or whatever. I think we have to make that distinction.
I think criticism is always welcome, it helps you reform practices and it helps us on the data side as well. But I do think we need to be careful and I think there’s a sort of almost a backward thought around sort of protecting certain interests. That’s really what’s being championed by maybe some politicians and the vested interests. We need to be quite careful about that.
NK: Jake, do you want to add to that?
JM: I’d like to think that greenwashing isn’t as prevalent, I’m a natural optimist. But I think a lot of this is about controlling one’s own narrative. Iif you look at Drax in the BBC documentary Panorama, they issued a fairly strong rebuttal after the BBC Panorama show, but it was too late because the story had already gone out.
Journalists now, for example, are becoming much better at questioning ESG issues and they’re almost like a gatekeeper now. I think companies have got to control their own narrative, and that means better disclosure. Get on the front foot; if you’re filling old growth forests and there’s legitimate reason for it, which there appear to be here, get on the front foot and explain what’s going on. Companies do have to become better at controlling the narrative and disclosing more information more proactively.
NK: Transparency is key and we are trying to work on that with disclosure, labelling we have had the FCA release the SDR. James, I know you were involved in those conversations, that’s got to be a sure sign that we are moving in the right direction and companies will have more guidance on how to be more transparent with products.
JA: Absolutely. I think that’s something we often forget is this is a really new part of the financial services industry. Financial services have been operating for hundreds of years, the industry we have today has been operating for many, many decades in the sense of ratings agencies and all these things. ESG and sustainability has only really been in the mainstream for less than ten years or so.
Clearly we’re not going to be at the same level of regulation and as developed an industry as other parts of financial services. But we’ve got to get there quickly and we’ve got to make sure that we professionalise this industry. And I think the greenwashing piece is really important because it’s about trust and confidence in what we do, that what we say is what is what was actually going on. That’s the best way to build consumer confidence. We know that consumers do lack confidence in, the products, and we also know that that when there is greenwashing, the people that are harmed the most is actually the leaders – the people doing the most, the people going the extra mile. They are doing all that work then their competitors put together a fancy, glossy marketing version and people can’t tell the difference – that is really harming those leaders more than anyone else, and, of course, it’s harming the integrity of the industry. So, that’s why we’re very pleased to see the FCA publish the Sustainability Disclosure Requirements consultation and it’ll be open until the end of January and then hopefully come into force middle of next year.
One of the big things that that does is it creates a sustainability label for funds in the UK. If you want to label your fund as sustainable, it has to obviously focus on returns, but it has to also have a broader objective around creating positive impact for people and all the planet, and then looking at ways of measuring that. I think one of the other exciting aspects is that there’s different types of funds that can be called sustainable; one would be impact funds, one is investing in sustainable solutions and assets or whatever.
But I think the really key one, given that so much of the economy is not currently aligned to where it needs to be and needs to be rapidly put on a trajectory to getting more sustainable, and also the investors do have an important role as stewards of capital to help make that happen, there’s a there’s a class of sustainable funds that are all about the transition – sustainable improvers. That will be about where investors are buying assets that are not currently sustainable in the sense of what they want and what the want the things in their fund to be, but they believe that with some more investor engagement, active ownership and so on that those assets will become more sustainable over time.
That’s a really, really key piece is where we can use one of our unique roles that we play as financial services, we’re the co-owners of the economy and we can help things move into that position. But what I will say, is this goes a long way but it also doesn’t take government off the hook from doing more itself.
The national governments of the world need to be thinking about how can they better regulate, make sure that companies are going in the right direction. Crucially, there’s this is challenge called first-mover disadvantage where if you’re the first in your industry to go the extra mile and becomes a net zero in your products, your products are going to cost more and you’re almost certainly going to face loss of sales as a result. How do we stop that from happening? How do we have whole industries move forwards at the same time? You level the playing field.
NK: Siobhan, how you think the FCA labels will help your clients have more understanding of what they’re actually investing in?
SA: So importantly, a lot of our clients are IFAs, and one of the things that we do for them, that we’ve sort of been doing for a number of years we think is key to our proposition, is holding managers to account. A lot of the things that SDR is really asking us to do, we’ve began to do, and it now gives us that sort of license to operate.
I’m not the most popular person with people’s DDQ teams at the moment, but we did quite a large exercise around all of our fund managers on sustainability KPIs specifically, so asking them for their internal carbon price, that sort of thing. And we’re starting to, I don’t want to call it score it but start marking them. And that’s the type of thing that we need to be doing to hold them to greater account. We don’t want to see a quarterly report or that sort of thing. We want to see detail and we want to make sure that we have that understanding. So often when fund managers come in and they give us these great updates, it’s only when you start picking the minutia of the questions on biodiversity and sort of geospatial data that you start to realise how much they’re understanding this.
So from our perspective, one, it’s a challenge for us, of course, it will be for everyone implementing it. But two, it gives us that sort of confidence in continuing to push. I think it’s a really exciting and welcome update.
NK: Fantastic. And Jake, same to you. The Square Mile clients – is this helpful for them?
JM: Yes, I do. Your points on first mover disadvantage applies to regulatory initiatives as well. And SFDR [in the EU] was a good initiative, but the fact that you had a regulatory framework launched without a reporting framework in place has made it a little bit difficult for the fund managers. SDR ll builds on that and there’s a bit more clarity in that.
There’s been a bit of ESG fatigue with our advisors. We’ve done a number of surveys, and they’re looking for solutions in their centralised investment propositions. So a lot of them want to have the conversation about responsible investing, but they don’t want to be buried in the minutia of client preferences. In terms of building centralised investment proposition, SDR certainly helps us formulate a more robust proposition in terms of the funds that we choose and the types of considerations we look at when we deal with fund managers on responsible investing – that provides us with some clarity. We can do the heavy lifting for advisors who want to have the conversation but don’t have the time to dig down too deeply. I think it’s a fantastic development.
I haven’t had a huge deep dive on that massive document that came out yesterday, but it looks to me like it’s a step in the right direction and it builds on the foundations of SFD. So we kind of dealing with the same language. I think it’s just a bit more nuanced. Okay.
NK: We’ve obviously in very difficult times now, especially here in the UK. There’s been talk of the cost of living crisis is being tackled at the same time as net-zero alignment. I wanted to ask your thoughts around this, Jake, I’ll come straight back to you on that?
JM: Yeah, it’s interesting that consumer priorities change with economic crises. That doesn’t mean to say that you can’t tie these things in. I think many, many investors have felt that the decision has to be made one way or other – do I invest in this or do I worry about my financial returns? Given that context of cost of living, you can understand why these priorities might change.
But in terms of things like the just transition, we’ve been considering some of these problems at a more macro level with countries and with disadvantaged countries. Again, it’s just an extension of the conversation. I don’t see it necessarily the case that you need to prioritize one over the other. But understandably, when times are tough, rents are going up, investors do have other considerations as well. But as the dust settles on some of these issues, I think we will return to a more holistic conversation.
N: Siobhan, do you think that’s something that your clients understand? That these things can be tackled together?
SA: I definitely think so, and I think the last 50 days have been quite difficult from a markets perspective, but equally from an environmental perspective. But a lot of things that we were thinking were really sort of key, in terms of tackling biodiversity we’re now having that conversation with clients i.e biodiversity and climate are so intertwined [we have explained] we need to tackle both at the same time and they are really welcoming that.
I think a lot of our clients can understand biodiversity a little bit more. It’s their gardens, for some of our larger clients it’s their estates so they see that. A lot of them have agricultural backgrounds, so that was something that we thought we’d made a lot of progress on. We have somebody talk about the new land management scheme to clients, and then it was sort of almost going to get thrown out. So, I think the last 50 days were quite tough. There’s a little bit more hope, both for my colleagues that are purely on the financial side, PMs are little bit more reassured. But also from my perspective, we’re starting to see maybe some of these challenges can get addressed. And I know that the new prime minster talked about things like renewable energies and having to tackle the cost-of-living crisis through basically everything we can do, and hopefully that really does mean a lot more investment in renewables. It seems to be like where we’re heading in a more positive direction.
NK: Great. James, a lot of your work at UKSIF has been around pushing the government to be clearer on the net zero plans. Now we have yet another PM in place, what will you be pushing for? Where will you be putting the pressure?
JA: Well, there’s so much pressure that we need to apply, we are so far behind being where we need to be. Your initial question was can we tackle more than one problem at a time? Of course we can, and we must. And the challenge with climate change is it’s this big long term problem; we’ve got to be net zero by 2050. None of us are probably going to be in the same jobs that we’re in right now. Certainly, I can’t see the prime minister being the same even in maybe two or three years let alone 2050.
We are certainly in a position where these challenges are none of us are going to be held to account for the decisions we make today in relation to 2050, but we can’t let that stop us from taking action we need to take now. And I think the really key thing is there’s always going to be a number of crises that come up that are immediate, that take a lot of time – the war in Ukraine, the cost crisis, oil and gas prices. What we need to think about is it shouldn’t be beyond the ability of the government and regulators and all of us to think about tackling more than one problem at a time. So, for example, we’ve seen this huge cost of living crisis and we’ve known this is coming now for about six months. We could have been in a position of saying the easiest way to reduce or improve our energy security is to need to use less energy. And that way we need to store less energy, we need to generate less energy.
And we could have had a huge summer-long campaign of loft insulation in these homes. We have some of the worst houses in Europe in terms of an energy efficiency perspective, we missed that opportunity to go kind of full force with retrofitting. There’s still time, we can still create this narrative around how do we use less energy? How do we make improve our energy efficiency? And there’s all sorts of examples of how we can tackle more than one problem at a time – levelling up, for example. It’s good to see the new prime minister start talking about levelling up again after Liz Truss stopped mentioning it at all. We know we’ve got a huge areas of the country that are massively disadvantage but how about we think about levelling up and net zero at the same time as the same policy?
We know that there’s going to be new industries created as part of net zero. We know that there’s going to be new parts of the economy that we want to grow and flourish. How about we support those areas that are most disadvantaged in the UK to be the hubs of manufacturing for the things that we need to make as net zero?
This is not rocket science in many senses, there’s all sorts of things that we can do that can address more than one problem at a time. And then to Jake’s point, in terms of how much people are thinking about their investments differently in a time of financial economic crunch, we do quite a lot of polling every year, we’ve done it since 2009 and it shows this ongoing and this year again, repeated reduction in the number of people that only care about investing to make them to make financial returns. More and more people are aware of the fact that where they invest and where their pension is, where their savings are, can have an impact, positive or negative on the world around us. People want that to be a positive impact. I’m pleased to say we did that polling about three days after the government’s mini-Budget that caused all this chaos, so we were right in the middle of the kind of most chaotic economic storm of the last 15-20 years of economic history and yet still that number went down for the number of people that only care about returns.
That to me is a very positive sign that people really are still caring about the bigger picture. And I think the key thing about ESG, as we said from the very beginning, is that when you do think about ESG issues and particularly the risks, we want to think about impacts as well but when you are , particularly thinking about the risks over the long term that should be a much improved return profile.
NK: Great, thank you. One final question to pose to the panel: Over 2020 and 2021, we saw huge inflows into sustainable products, and that has slowed a bit this year, it’s still outperforming traditional funds but one of the data pieces that I’ve seen recently was the first time that ESG funds had seen outflows. Therefore, is now a good time to be investing in ESG? I think I know what you were going to say, but I would like you add some more colour around this. Is now a good time?
JM: Yes, I understand the question and the point. If you look at the Covid drawdown, companies that had good ESG scores by coincidence also have quite strong balance sheets, they tend to have more diverse boards and make better decisions. A lot of these ESG manifestations actually become real life defensive characteristics in the company. If you make the assumption that you’re looking for a diversified portfolio that’s going to perform well in different environments, it makes sense to have good ESG scores.
It might make sense to have some exposure to an industry that’s going to do well in the future, whether it’s recycling or a particular kind of disruptive manufacturing technology that reduces carbon emissions. I think now there are many more building blocks within the responsible investing framework. You can have ESG funds, you can have growth funds, you can even have value exposure within the ESG frameworks now.
So yes, any time’s a good time. I, I think it’s about the horizon – advisors need to match the longer term horizons with their clients, which is not a new lesson in itself.
SA: Yeah, I think I’d like to agree. From an investment perspective, if the companies are looking cheap, now is the time to put money in. But more importantly, I think whether we have market booms and market crashes, these are really, really long term trends and we really have to deliver on this, it’s even bigger than the market.
A lot of the things that we’re investing in we’re trying to stabilise a lot of the forces that are going to be influential within markets and even without. I think very important to keep quite positive on these trends.
NK: And James?
JA: Yes, to build on what you both have said, these are long term trends and not only are they trends,in terms of taking account of ESG risks is clearly going to be a better thing, as I’ve said a couple of times, but actually we know that this is the direction the world is moving, probably slower than we need to. Obviously, there’s going to have to be a ramping up but because we know we’re going slower than we need to, and we know that sooner or later governments are going to really get into gear. These policies are only going to enhance and move further, and when governments and this and civil society and individuals… the polling consistently says that across just in the UK, climate change is in the top five issues that voters care about.
This is not going away and that’s been the case for a very long time, and it’s not going away as an issue. This year we saw record breaking heat in the UK, but we also saw a third of Pakistan under water. We’re already seeing enormous consequences of climate change right now, and we’re miles away from 2050. We’ve got to be clear that, moving forwards, the world sooner or later is going to have to really get into gear and start addressing this. The more that we can make sure our investments are protected and consider these issues, and consider what are the industries of the future, what are the industries that are not going to be needed in the future? And which industries are going to have to make fundamental changes to the way that they work? Then we can start pricing assets more appropriately and that’s where you can start to see the returns.
NK: Fantastic. Well, thank you all so much for your time today, we’ve had some great discussions.