When owners speak, company bosses tend to listen. So why hasn’t the ethical investment movement had more impact? And now that professional investment managers increasingly understand the issues, will more investors follow?
Back in January the UK-based Investment Association published data showing ethical investment at an all-time high, with funds under management totalling £10.7 billion, having more than doubled in a decade. Time to crack open the champagne? Do investors finally understand that good business practices can enhance long term returns? Will corporate behaviour now improve?
Alas, no. The same data shows that so-called ethical funds are stubbornly stuck at 1.2% of the whole market, a figure that hasn’t moved in 10 years.
Does that mean 98.8% still don’t get it? Perhaps. But those charged with managing funds most certainly do.
The start of March brought news that one of the big beasts of the investment management world, Morningstar, was rolling out a new sustainability rating scheme across 20,000 funds globally, giving investors a new way to evaluate their investments based on environmental, social and governance (ESG) factors. The rating allows investors to move their money based on how well the underlying companies in a fund address the ESG issues most relevant to their sector. With more than $180 billion in assets under advisement and management, Morningstar is no minnow.
Bigger still is Blackrock, with $4.6 trillion assets under management. Its CEO, Larry Fink, sent a letter in February to chief executives of large corporations, bemoaning their short-termism. He could not have been clearer: “Over the long-term, environmental, social and governance issues – ranging from climate change to diversity to board effectiveness – have real and quantifiable financial impacts.” My colleague, Peter Truesdale, analyses his complete message here.
And this follows news of a “game-changing” move in the USA, where $8.5 trillion in assets are managed under the Employee Retirement Income Security Act of 1974 (ERISA) on behalf of 143 million workers and pensioners. ERISA regulates the pension and healthcare plans of workers in private business and industry. Previously environmental and the other ESG factors were seen as intended to serve goals other than investment performance, the so-called social purpose. Now the fiduciary duty is clarified so ESG issues are seen as enhancing long-term investment returns.
This legal position has just been confirmed by the UN-backed Principles for Responsible Investment (PRI). “ESG factors are treated as material considerations in determining the prospects of a company and its ability to create long-term value. The focus is on the prudent evaluation of certain risks that, if disregarded, could adversely affect long-term investment returns,” says their report.
That’s not to say ethical and socially responsible investment is dead. Morningstar says funds with explicit sustainable or responsible investment mandates comprise about 2% of its fund universe, but score twice as strongly under its new sustainability rating scheme compared to the mainstream. And Blackrock trumpets that it’s one of the world’s largest responsible investors, with $225 billion in mandates that explicitly address social, ethical, or environmental considerations. That’s a lot of money.
But the days of expecting a small number of dedicated ethical funds to change the world are surely over. Mainstream investment managers now get that sustainability is about securing long term returns. Crucially, US regulators agree. The question is – will more investors use these new tools to switch their money into companies that are trying to do better, while leaving the ‘ethical’ minority still to set the standard and seek out the very best?
Since most of our pensions are at risk, I certainly hope so.
Also published at Corporate Citizenship Briefing