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Economics of ESG investing driving demand in Europe

There are also signs this focus on environmental, social and corporate governance (ESG) factors is starting to bleed through to the wealth management industry and fund selectors across the continent.

Georg Skare Lund, head of manager selection at Storebrand Asset Management, said it was about improving investment performance.

“By taking ESG factors into consideration, fund managers can enhance the risk-adjusted returns of their portfolio,” Lund said.

My-Linh Ngo, head of ESG investment risk at Bluebay Asset Management, agreed. “We’re not looking at the factors because of a moral impetus but because we believe it can add value to our analysis,” he said.

Holistic approach

Increasingly, investment managers feel that while an analysis of financial metrics gives a solid view of a company, it is not necessarily the complete picture.

A complementary analysis of ESG factors alongside these other elements gives a more holistic picture of the company.

Ngo said: “Metrics like return-on-equity and price-to-book only show you the tip of iceberg. Using ESG characteristics allows us to take a glimpse at the part below the water.”

This data gives an investment manager a better way to judge how it manages its relationship with both its internal and external stakeholders.

“That extra information can help us to judge whether a company will be successful over the long term,” added Ngo.

Forward looking

Not only do ESG factors allow managers to build a more complete picture of a company but they also act as economic leading indicators – they are more forward-looking than most financial metrics, said Wim Van Hyfte, Candriam’s global head of responsible investments and research.

But even though ESG factors represent a source of useful information for investors, data quality can be a problem.

Van Hyfte said: “It is hard to find reliable data that is consistent across all companies.”

To overcome this lack of consistent data, asset managers need to engage closely with companies to explain why it’s vital for them to provide this data.

Van Hyfte said: “A company needs to be told why it is important for their business model and how this data will feed into our investment process.”

ESG relevance

Fund managers have determined which financial metrics are particularly valid for specific industrial sectors. For example, price-to-book ratios are useful metric when looking for value companies, while profit margins and price-to-earnings ratios are more helpful in selecting quality companies.

They now need to determine which ESG factors are the most material for a particular company. For example, environmental factors could be more important for mining and utility companies, while social factors might be more important for retail companies.

Van Hyfte said: “To determine the best methodologies for each individual factor, as well as its particular relevance for each sector, will take time.”

But these standards will be established as both the Sustainability Accounting Standards Board and fund managers are pushing to solidify these definitions and build the necessary data, he added.

Investor demand

Asset managers are also pursuing a greater integration of ESG factors into the investment process not only because they recognise it will be a helpful investment tool but because investors are increasingly demanding these skills.

Johan van der Lugt, senior ESG specialist in the Responsible Investment Team at NN Investment Partners, said: “Every request-for-pitch over the last few years has included ESG questions.

”If an asset manager does not have a distinctive ESG approach, they will not win any mandates,” he said.

Ngo agreed: “A focus on ESG characteristics is becoming a necessity.” Clients want fund managers to demonstrate whether these factors represent a risk or an opportunity.

“Accountability is an important driver,” she added.

 

Read on the next page about the integration of ESG factors 

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