Chapter 2: ESG Market Flashcards
Describe the history of sustainability?
- Bruntland Report published in 1987 introduced concept of sustainable development
- Rio 1992
- Sullivan Principles on Apartheid
Can you please rank the ESG investment strategies for largest to smallest?
○ Negative exclusionary screening ○ ESG integration ○ Corporate engagement and shareholder action ○ Norms-based screening (Ethical) ○ Best in class ○ Sustainability-themed - Impact
What is the most common ESG strategies in EU, US/AU/NZ and Japan?
- Negative screening is largest in Europe
- ESG integration most common in US, CA, AU and NZ
- Corporate engagement and shareholder action in Japan
What are asset owners?
○ Legal owner of asset
○ Make asset allocation decision based on own objectives + analysis
○ Can outsource asset management via investment manadate
- Pension funds, Insurance, Individual investors and banks
What are asset managers
- Not legal owner of the asset
- Fiduciary duty to client
- Make investment decision s pursuant to investment management agreement
What does determine the effectiveness of asset owners ability to steer investment towards ESG?
○ Number of asset owners implementing responsible investment
○ Total AUM
- Quality of implementation across scales
What are the key stakeholders for pension funds?
- Executives - who manage the fund
- Trustees - hold ultimate fiduciary responsibility, similar to board of a company
- Beneficiaires
What can pension funds do to integrate long-termism?
- Integrate long-termism in their investment belief statement
- Set up investment mandate that places greater value on long-termism
- Demand long-term metrics from asset managers and underlying investees (assets)
What can asset managers do to work with ESG?
- Select securities and offer a portfolio of those to asset owners
- They influence ESG characteristics of the portfolio through selection, as well as engagement with investee companies
- Offer also new products indices and passive funds that integrate ESG
What are the principle tasks of policymakers?
- Maintain orderly financial markets
- Safeguard investments
- Orderly Expansion -> green bonds
What can policy makers do to promote ESG?
- Corporate disclosure
- Stewardship - Interactions between investors and investees, protect shareholders, stability of the market
- Asset owners - require pension funds to integrate ESG
What are the main challenges for ESG integration prior to integration?
- Perception that implementing ESG may have negative impact on financial performance
- Belief that fiduciary duty prevents ESG integration
- Bad advice from investment consultations and financial advisers
What are the main challenges for ESG integration once decision has been made?
- Lack of understanding to build an investment mandate that promotes ESG -> Model Mandate Initiative
- Perception that more resources are needed
- Gap between marketing, commitment and delivery of funds regarding ESG performance
What are the main challenges for ESG integration in terms of technical resources?
- Data availability - Disclosure is challenges
- Modelling - Challenging to integrate ESG into traditional financial models, breakthrough changes, no historical patterns
- Valuation techniques - To adjust corporate valuations with e.g. ESG-based discount rate future cash flow, or valuation ratios (price-to-earnings or book value)
What is portfolio tilting and when is it used?
- Tilting means “overweighting” or “underweighting” sectors or companies in a portfolio
- Required in screening, divestment and thematic investment
What are key ESG market trends?
- From “comply or explain” (with investors challenges ESG) TO “comply and explain”
- From voluntary to mandatory
- From policy to implementation and reporting
Why is ESG investing a concern for investors that are cautious of tracking error?
Perception that exclusion resulting from ESG integration will distort weights of sectors and countries in the portfolio in comparison to benchmarking leading to tracking error
What are the impacts of short-termism and what is the name of an important report on the subject?
- Makes managers less interested in projects that have long-term benefits
- Risk to overlook ESG factors that have long-term impact
- Report by John Kay for UK gov supported myopic nature of short-termism
