Meeting ESG Investor Needs

Meeting ESG Investor Needs

March 2019

By Frances Barney, Doug Magnolia, Marvin Vervaart

Making a difference and investing for the future go hand in hand for an increasing number of individual investors.

Several industry studies have shown that millennials—the generation between 18 and 38 years old—are significantly more interested than their respective counterparts in responsible investing.

  • Millennial investors are more than 2x as likely as Baby Boomers to be interested in investments dedicated to social or environmental problems.1
  • By 2030, Millennials are expected to come into almost $350B of assets through intra-generational and other types of wealth transfer.2

Given the tectonic demographic and behavioral shift anticipated in the future, we thought it was important to speak to several of our in-house experts to understand how socially responsible investing is evolving and what that might mean for investing millennials. Our virtual roundtable consisted of:

  • Doug Magnolia - Managing Director, Sumday and Asset Servicing
  • Martin Vervaart - Head of Asset Owner Segment, EMEA
  • Frances Barney, CFA - Head of Global Risk Solutions and Head Asset Owner Product Management, Americas

Doug, from your vantage point as someone who works with asset managers and understands their focus on launching new products which address investor needs, can you talk about any notable shifts in preferences and options when it comes to socially responsible investing among individual investors?

 

In the recent past, there have been fewer responsible investment options for individuals. For background, ESG investing, which focuses on Environmental, Social and Governance factors in investment performance, has traditionally been driven by a sub-set of institutional investors who tend to have long-term investment horizons. Also, a number of notable endowments, family foundations and sovereign wealth funds take it a step further with what’s known as impact investing. These impact investors channel their assets to effect positive change in their chosen areas of ethical and environmental concern.

But we’ve already started to see more options for individual investors to participate in socially responsible investing. In the last year, Bloomberg made headlines when it became the first U.S. corporate plan sponsor to sign onto the U.N.’s Principles for Responsible Investment. It was also one of the first big corporations to offer an ESG-themed equity fund into its 401(k) options. Unsurprisingly, Bloomberg’s plan administrators found that it was most popular among millennials. As a plan administrator for state-sponsored 529 savings plans, we’ve seen one college saving plan introduce an investment option focused on social and environmental criteria—and we anticipate that others may follow suit.

 

Some of the barriers that have prevented plan administrators from considering ESG options are starting to be addressed. There’s a significant body of research to support that taking into account ESG factors can enhance risk-adjusted returns. There are now also a number of socially responsible ETFs in the marketplace. As more ESG funds and benchmarks come to market and establish a track record, plan sponsors and other fiduciaries will have more information to help them incorporate ESG into the investment process. Also, more investment managers are integrating ESG practices and creating new products that either take ESG factors into account or seek to promote specific areas of ethical concern. Through a combination of increased demand and supply, I think ESG investing among individual investors will continue to gain momentum.

 

Marvin, given your interactions with a number of European pension funds, can you talk about what momentum you’re seeing in Europe as it relates to the adoption of ESG factors in the investment process? Do pensioners have a say when it comes to ESG investing?

 

In Europe, I’d say that the majority of fund managers are incorporating ESG into the investment process whereas in the U.S., it’s around 30%. One major difference is that in Europe, there are a number of jurisdictions that require institutional investors to disclose how they integrate ESG into the investment process—pension funds in the Netherlands, Germany, Sweden and the United Kingdom are examples. For most OECD countries, including the United States, ESG disclosure for pensions, insurers and asset managers are voluntary. We see interest from our EMEA pension clients in having tools and data to help them understand their ESG performance across their total fund. Frances, who is also part of this roundtable, has been leading efforts to support this area of need and we’re excited about some of the concepts that her team has developed.

With respect to your question about whether or not pensioners have an outlet to express any interest in ESG investing, that’s a very interesting and topical question as it relates to Europe. Earlier this year, the European Commission’s High Level Expert Group (HLEG) on sustainable finance released a set of initial recommendations that will be factored into an upcoming action plan. The HLEG recommended that pension funds “should consult beneficiaries on their sustainability preferences and build those into their investment strategy.” As a result, various pension plans and related associations are debating this recommendation, with a spectrum of viewpoints emerging. In Europe, the implementation in early 2019 of a piece of legislation known as IORP II, calls for greater attention to and disclosure of ESG factors in the investments process for pension schemes. Our London Innovation Center recently worked with a partner to ideate and prototype digital tools that pensioners might use to express ESG preferences. Ultimately, we sense that more investors will want to have a say in how their savings can drive societal impact. They also want transparency into how their pension schemes are investing in ESG assets. That indeed is a very noteworthy development that we will monitor closely.

 

Frances, your team works with professionals in risk management and performance measurement. What are they grappling with when it comes to furthering ESG investing and meeting the needs of ESG investors?

 

First I’ll touch on a catch-all category which is the challenges of ESG harmonization in terms of guidelines, data and more. An industry survey revealed that ESG integration in investment analysis—and not exclusionary screening—is the predominant approach that investment managers are using when it comes to sustainable investing.3 That’s great news but assessing ESG risks is not straightforward. There are variations in ESG methodologies, frameworks and reporting, which can be scarce or inconsistent. In order for investment analysts and risk professionals to incorporate ESG into their recommendations, they need consistency in reporting and common best practices to build upon. However, it’s important to remember that the field of ESG is not static and even definitions and measures for ESG are likely to evolve. At BNY Mellon, we’re experimenting with a number of data sources to help address these gaps. We expect to evolve our ESG solutions as regulations, investor demands and technology continue to evolve.

 

Lastly, I’ll mention an important challenge when it comes to ESG—that of investment horizons. As mentioned earlier, a number of studies have shown that you don’t necessarily have to sacrifice performance by incorporating ESG into your investment decisions. However, companies investing in sound sustainable practices might not see value creation and valuation appreciation until perhaps ten or twenty years later. Investors, whether they’re retail or institutional investors, are understandably sensitive to short-term stock movements, which could deter them from making long term commitments to ESG investing. That said, to bring it back to the topic of investor needs and changing demographics, it makes sense that younger generations—including not only millennials but also post-millennials, and Gen Xers—are interested in ESG and other forms of responsible investing. With their retirement and other horizons further into the future, they have the potential to see their ESG investments bear fruit both in terms of financial and societal impact.

 

1 Responsible Investment Association—Millennials, Women and the Future of Responsible Investing (April 2016), https://www.riacanada.ca/research/millennials-women-and-the-future-of-responsible-investing/

 

2 Deloitte University Press—The Future of Wealth in the United States (2015), pg 6. Retrieved from https://www2.deloitte.com/content/dam/insights/us/articles/us-generational-wealth-trends/DUP_1371_Future-wealth-in-America_MASTER.pdf

 

3 CFA Institute—Environmental, Social and Governance Survey (June 2015), https://www.cfainstitute.org/en/research/survey-reports/esg-survey-2015


 

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