Effective ESG investing requires a blended approach

21 Dec 2017

By Pascal Blanqué

Whilst responsible investment was limited for a long time to a few pioneering investors, it has now become a major consideration for all long-term investors.

There are now many who have realised that ignoring environmental, social and governance (ESG) challenges entails running risks. And equally, on the other end, new opportunities for creating return have emerged.

Integration of ESG criteria can take many forms: best-in-class, thematic or exclusion approaches. More extra-financial information is available on companies than ever before. Such ratings provide an insight into company practices, allowing investors to mitigate long-term investment risk by identifying possible sources of operational, reputational and regulatory risk.

Best-in-class, or “positive screening”, involves ranking assets based on ESG ratings and overweighting/underweighting the best/worst performing companies. Take oil and gas: it will take years before we can live without fossil fuels. By using the best-in-class approach, the investment manager can remain invested in oil and gas companies, but only in companies with better environmental scores.

Although ESG ratings are a useful tool, with ownership comes responsibility: investors have a huge responsibility to avoid doing harm while earning their return. Being a committed player means
engaging in constructive shareholder dialogue and exercising voting rights at general meetings.

Moreover, dialogue between companies and their shareholders around ESG topics outside of general shareholder meetings is becoming increasingly commonplace. Such a project gives companies the opportunity to improve their practices by measuring themselves against the highest industry standards, and allows shareholders to better manage their investment risks and opportunities.

In extreme cases, exclusion can be an alternative and effective tool for catalysing change. Over and above the normative exclusions that have been defined by international treaties and conventions, we can consider the divestment of controversial sectors and business practices, or issuers that are not willing to make progress.

Divestment policies are currently experiencing an undeniable growth in popularity. But they are a one-off. The investor makes his point and walks away, giving up the ability to influence behaviour in the future. It is thus more effective to blend divestment threat with engagement when searching for an impact.

Thematic investing aims to generate a concrete, quantifiable, positive impact, responding to major environmental and social challenges. Taking the example of the climate theme: the development of “green technologies” comes with financing needs and equally brings promising investment opportunities within renewable energy, water and waste management, infrastructure, etc.

We are convinced that a strong sustainable development policy enables issuers to better manage risks and improve operational efficiency. It is also a way for asset owners and managers to assume their responsibility in a world of numerous challenges, with consequences that go far beyond financial considerations.

Pascal Blanqué is a member of the 300 Club

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