Ch 2 ESG Market Flashcards
the largest sustainable investment strategy globally is?
second largest sustainable investment strategy globally is?
Which sustainable investment strategy is predominant in Japan?
As of 2018, the largest sustainable investment strategy globally continued to be Negative, or exclusionary, screening, as shown in Figure 2.2, with a combined US$19.8tn (£14.2tn) in assets under management (AUM).
This is followed by ESG integration, which had grown by 69% over the prior two years, to US$17.5tn (£12.6tn) in assets.
▶ Negative screening is the largest strategy in Europe.
▶ ESG integration commands most assets in the USA, Canada, Australia and New Zealand.
▶ Corporate engagement and shareholder action constitute the predominant strategy in Japan.
What report tells this losing at least 5% of global gross domestic product (GDP) each year, now and forever. Including a wider range of risks and impacts could increase this to 20% of GDP or more?
The Stern Review on the Economics of Climate Change, known simply as the Stern Report, was a particular influence on the investment industry. At the request of the UK Government,
economist Sir Nicholas Stern led a major review of the economics of climate change to understand the nature of the economic challenges and how they can be met. The review, published in 2006, concluded that climate change is the greatest and widest-ranging market failure ever seen, presenting a unique challenge for economics and that early action far outweighs the costs of not acting. According to the report, without action, the overall costs of climate change would be
equivalent to losing at least 5% of global gross domestic product
(GDP) each year, now and forever. Including a wider range of risks and impacts could increase this to 20% of GDP or more. Although not the first economic report on climate change, it had an important influence on how investors understand climate change, in the UK and globally.
What is the most popular form of socially responsible investment (SRI) in the early days?
Negative screening was the most popular form of socially responsible investment (SRI) in the early days.
(in other words, deliberately opting not to invest in companies or industries that do not align with values)
Because of these historic roots of ESG investing, with it being grounded in ethical issues of a societal nature and environmental issues coming to the fore in a later period, the term SRI came in use.
What are short falls for short-termism?
Instead of productive investment in the real economy, short-termism may promote
bubbles,
financial instability and
general economic underperformance.
Furthermore, short-term investment strategies tend to ignore factors that are considered more long-term, such as ESG factors.
What three internal players are Pension funds as institutions driven by
Pension funds are responsible for the management of pension savings and pay-outs to individuals. Given the long-term nature of their liabilities, ESG factors – more long-term in nature – are particularly relevant to their investments.
Pension funds as institutions are driven by three internal players:
- Executives, who manage the fund’s day-to-day functioning.
- Trustees, who hold the ultimate fiduciary responsibility. They act separately from the employer and hold the assets in the trust for the beneficiaries of the scheme.
- Beneficiaries (or members) who pay into the fund or are pensioners benefitting from the assets.
Similar to the board of a company, the board of trustees is responsible for ensuring that the pension scheme is run properly, and that members’ benefits are secure. The level of delegation between trustees and executives (on matters such as policy and asset manager selection) varies depending on the governance of the pension fund. The level of alignment between them also varies significantly across pension funds. Beneficiaries are generally not aware of the details of investment decisions, but may enquire why their pension funds are invested in a company that is violating human rights, or engaging with their pensions to divest from
nuclear weapons. As a result, these actors have different roles and at times, different interests, but may all help advance pensions’ fund policy and implementation of responsible investment.
Federal and state governments are also often among the largest institutional investors – typically through pension schemes or sovereign wealth funds. When governments align their policy intent with their own direct investment influence, there is scope for significant impetus to be added towards ESG integration. Some
governments and investment funds have recognized this.
What do Some investors also still question regarding their fiduciary duty?
Some investors still question whether considering ESG issues
can add value to investment decision-making
Some investors also still question whether their fiduciary duty allows them to implement ESG investing.
Internal evidence on the impact of considering ESG and engaging with direct peers can help address these barriers.
What does FINANCIAL SYSTEM VALUE CHAIN consist of?
FINANCIAL SYSTEM VALUE CHAIN
- Asset owners
Advanced sustainability commitments are widely implemented throughout the asset owners, including board, trustees, CIO, portfolio managers, research analysts and legal counsel, and across asset classes and investment strategies. Sustainability factors are integrated in the selection process for investment consultants, investment managers and embedded in investment mandates. - Investment consultants
As asset owners signal their commitment to sustainability considerations, investment consultants will be incentivised to better assess investment managers on ESG performance, and make recommendations accordingly.
Investment consultants will offer a wide range of ESG investment products and services to markets, in line with trustees’ needs, including explanations of how these products align with fiduciary duties. - Investment managers
As market signals grow, investment managers will offer advanced ESG investment products, in order to maintain their market share. This will include meaningful shareholder engagement, consistent with the investment beliefs of their clients, with advanced reporting to asset owners on implementation and the outcomes that have resulted. - Investment brokers
Investment brokers and independent research providers will integrate research on ESG performance in company buy, hold and sell recommendations, requiring companies to provide robust, credible and detailed accounts of their management of ESG issues, and of the financial significance of these issues. Investment brokers and independent research providers will engage ratings agencies, data providers and policymakers on issues relevant to responsible investment. - Stock exchanges
Sitting at the heart of the investment chain, stock exchanges will strengthen listing requirements for companies and offer advanced sustainability indices on a range of ESG metrics. - Policymakers
With sustainability embedded through the investment chain, policymakers will be more inclined to support regulatory initiatives which reinforce responsible investment practice, engaging pension funds on issues beyond capital allocation, such as climate change, including policy formulation and policy implementations.
1971 with the establishment of the Pax World Fund say no to to the production of nuclear and military arms.
———————————————
1970s the divestment campaign in protest at South Africa’s system of apartheid
One of the first ethical mutual funds that moved to screens based on religious traditions was the Pioneer Fund that was launched in 1928.
The modern institutionalization of ethical exclusions arguably began at the height of the Vietnam War in 1971 with the establishment of the Pax World Fund (now IMPAX Asset Management). At the time, the fund offered an alternative investment option for those opposed to the production of nuclear and military arms.
In the late 1970s, the divestment movement became increasingly globalized through the divestment campaign in protest at South Africa’s system of apartheid.
Endowment funds
▶ private foundations
▶ public charities
Endowment funds are funds set up in a foundation by institutions (universities or hospitals, for example) that wish to fund their ongoing operations through withdrawals from the fund.
Given the often societal purpose of endowments, there is an active debate on how to align the ongoing operational funding with topics such as divestment.
▶ private foundations originate their capital through one funder (typically a family or a business); whereas
▶ public charities originate their capital through publicly collected funds.
Examples that Insurers are by nature sensitive to certain aspects of ESG?
Insurers are by nature sensitive to certain aspects of ESG due to factors impacting insurance products, such as:
▶ frequency and strength of extreme weather events (P&C); and
▶ demographic changes (life insurance).
DIFFERENTIATING ASSET OWNERS, ASSET MANAGERS AND INTERMEDIARIES
Asset owners
• Legal ownership of assets.
• Make asset allocation decisions based on investment objectives, capital markets outlook, regulatory and accounting rules.
• Can manage assets directly and/or outsource asset management.
• Examples: pension funds, insurers, banks, sovereign wealth funds, foundations, endowments, family offices, individuals.
Asset managers
• Act as agent on behalf of clients (asset owners).
• Not legal owner of assets under management.
• Not the counterparty to transactions or to derivatives.
• Can manage assets via separate accounts and/or funds.
• Make investment decisions pursuant to guidelines stated in Investment Management Agreement (IMA) or fund constituent documents.
• Required to act as a fiduciary to clients.
Intermediaries
• Provide investment advice to asset owners including asset allocation and manager selection.
• Conduct due diligence of managers and products.
• Examples: institutional investment consultants, registered investment advisers, financial advisers.
What reminds the interdependence between societies, economies and financial markets?
The global financial crisis of 2008 and the COVID-19 pandemic of 2020 and 2021 provided another stark reminder of the interdependence between societies, economies and financial markets.
It also provided clear evidence that market pressures do not always result in ideal outcomes for the wider good.
This reignited institutional investors’ interest in the risks and opportunities presented by the extra-financial performance of a company, enhanced by the growing perception of large asset owners as ‘universal owners’, tied to the performance of markets and economics as a whole.
What ways in which financial service companies can make contributions to higher quality ESG information?
Financial service companies are important enablers of responsible investment as they make significant contributions to the availability of securities with higher ESG quality, and increase the quality of information about ESG characteristics of securities and assets in general. For example:
▶ Investment banks can support a company issuing a green bond (a bond where proceedings are specifically earmarked to be used for climate and environmental projects).
▶ Sell-side analysts and rating agencies can consider ESG within their analysis, recommendations and ratings.
▶ Stock exchanges can increase disclosure requirements on ESG data by listed companies (as encouraged by the Sustainable Stock Exchange Initiative).
▶ Proxy voting service providers, those who vote on behalf of shareholders at companies’ annual general meetings, can integrate ESG considerations within their voting and voting recommendations.
What entities do Investees include?
Investees include all entities in which investments can be made. Among others, these include:
▶ companies;
▶ projects (such as infrastructure projects and joint-ventures);
▶ agencies (including World Bank and International Finance Corporation); and
▶ jurisdictions (for instance, countries/regions, provinces and cities).
Decision-makers in these entities can influence how they manage
ESG risks and the impact they have on the environment and society. Furthermore, they decide on the level of disclosure of ESG factors to provide to existing and potential investors. In fact, one of the most pressing issues for ESG investing is a lack of access to
reliable and consistent ESG data. Various reporting initiatives exist to try to address this issue.
What could roughly double the size of the entire US equity market in the next two to three decades?
Millennials are usually defined as those born after 1980 and who reached adulthood in the 2000s. Studies and surveys have generally found that millennials are quite interested in ESG investing:
▶ A 2017 study of high-net-worth investors stated that 90% of millennials want to direct their allocations to responsible investments in the next five years.
▶ Another study found that 75% of individual investors in the USA were interested in sustainable investment; the percentage of millennials was higher, at 86%.
▶ Younger high-net-worth investors are most likely to review the ESG impact of their investment holdings, including 88% of millennials and 70% of Generation X. 82% of high-net-worth investors who make investment decisions based on ESG factors see investing as one way of expressing their personal values.
Millennials are a large demographic, representing 75 million people in the USA alone, and the future recipient of an expected US$30tn (£21.6tn) intergenerational wealth transfer through inheritance from ‘baby boomers’.
Bank of America Merrill Lynch predicts that over the next two to three decades, millennials could put between US$15tn (£10.8tn) and US$20tn (£14.4tn) into US-domiciled ESG investments, which would roughly double the size of the entire US equity market.
