Treasury Practice

ESG: long-term thinking can add value to short-term investments

Published: Oct 2019

Bulb in the soil with a plant and coins

While ESG was becoming a buzzword in long-term holdings, environmental, social and governance factors (ESG) long continued to seem irrelevant for short-term investments such as liquidity. Yet as the concept has gained familiarity, investors have realised ESG factors can impact performance in the short as well as the long run.

Marte Borhaug, Global Head of ESG Investment Solutions, Global Responsible Investment, Aviva Investors

Marte Borhaug

Global Head of ESG Investment Solutions, Global Responsible Investment
Aviva Investors

Aviva Investors logo

Why think about ESG?

Corporate treasurers mandated with investing their firm’s money to preserve capital, maintain liquidity and deliver some yield have tended to think of ESG as a secondary concern, if at all. Those who did consider it – including asset managers – largely believed it would restrict the investment universe and the flexibility of money market funds.

In fact, ESG is a key determinant of value creation and protection, and therefore highly relevant to treasurers’ aims. ESG factors are the non-financial aspects of a company’s performance that are key contributors to its bottom line – so taking them into account is highly pertinent. It is not the same as ethical investing, which avoids specific investments for ethical reasons without taking into account the impact of these choices on financial performance.

For instance, the money market funds using ESG criteria today are prime funds, invested in commercial paper and other private instruments, so their primary exposure is to the financial sector. As such, governance has always been an implicit – but essential – consideration. In recent history, examples of material governance failings readily come to mind, from Wells Fargo to Danske Bank, and of course the subprime crisis. This also highlights how some ESG risks can materialise quickly, impacting short-term investors perhaps even more than longer-term ones who can afford to ride out a crisis.

As illustrated by the number of ESG money market funds launched recently in the US, but also flows into these funds, interest is growing rapidly. According to Fitch Ratings, assets rose 15% to US$52bn over the first half of 2019, after growing 1% through all of 20181. The momentum is building as regulators and authorities call for greater ESG disclosure from asset owners and managers, and investors understand this. They are increasingly asking probing questions about how ESG is integrated into their portfolios.

Asking the hard questions

Because ESG is complex, investors need to choose managers that understand a wide set of metrics and carry out their analyses within the context of dynamic global events – such as the shift to sustainable consumption, the climate change agenda and the movement for equality, all of which will create winners and losers.

When conducting due diligence, investors should look beyond managers’ claims, to avoid those content with greenwashing, and they should ask challenging questions such as:

  • Does the investment process go beyond simple exclusion criteria?

  • Does the manager have a framework to categorise strategies by type of ESG approach (eg integration, active ownership, exclusion, positive screening, etc)?

  • Do they have a proprietary, forward-looking scoring methodology focused on the material factors most likely to impact performance? For instance, although MSCI ratings are a good start, they present significant limits on these points.

  • What is the manager’s track record in terms of ESG integration, voting at AGMs, industry lobbying and active engagement to encourage companies to improve their ESG practices? Meaningful engagement of this kind can reveal a manager’s true level of commitment.

Having fully integrated ESG factors into their credit research, asset managers should act on the data. They can exclude some investments where companies present a high level of near-term risk. To take a non-financial example, explicit governance failures led us to shun BP shares in 2010. When the Deepwater horizon spill occurred, this decision benefitted our investors. Where short-term risks are low but long-term risks more meaningful, the best approach is usually to engage with companies to encourage them to adopt best practice, both through voting – where asset managers hold shares – and via meetings and correspondence with company boards, to raise concerns and follow progress.

Growing momentum

While ESG is one of the hottest corporate topics today, it has been a key part of our investment philosophy for decades – our record of engaging and voting at company AGMs dates back to the 1970s. We see it as a demonstration of our responsible stewardship of our clients’ money, putting that money into projects, companies and assets that will deliver long-term value.

That said, we recognise that ESG is a complex space. To make further progress, the market needs to come together to make ESG more readily understandable. Among many other initiatives, we have long been advocating for ESG standardisation, and we are pleased to see it emerging. In the UK, the British Standards Institute (BSI) is working towards a standard for sustainable investment. It is also in conversation with its global counterpart, ISO, demonstrating the growing momentum towards a global taxonomy.

Few investors ever used to ask their asset managers what ESG factors they incorporated. Today, this question is becoming increasingly routine. The asset management industry needs to be ready, and as the industry continues to align capital with the ever-more relevant risk metrics of ESG, we urge investors to keep asking those hard questions.

Footnote
  1. ESG Money Market Funds Grow 15% in first half of 2019, Financial Times, 14 July 2019

Important information

Except where stated as otherwise, the source of all information is Aviva Investors Global Services Limited (AIGSL). Unless stated otherwise any views and opinions are those of Aviva Investors. They should not be viewed as indicating any guarantee of return from an investment managed by Aviva Investors nor as advice of any nature. Information contained herein has been obtained from sources believed to be reliable, but has not been independently verified by Aviva Investors and is not guaranteed to be accurate. Past performance is not a guide to the future. The value of an investment and any income from it may go down as well as up and the investor may not get back the original amount invested. Nothing in this material, including any references to specific securities, assets classes and financial markets is intended to or should be construed as advice or recommendations of any nature. This material is not a recommendation to sell or purchase any investment.

In the UK & Europe this material has been prepared and issued by AIGSL, registered in England No.1151805. Registered Office: St. Helen’s, 1 Undershaft, London, EC3P 3DQ. Authorised and regulated in the UK by the Financial Conduct Authority. In France, Aviva Investors France is a portfolio management company approved by the French Authority “Autorité des Marchés Financiers”, under n° GP 97-114, a limited liability company with Board of Directors and Supervisory Board, having a share capital of 17 793 700 euros, whose registered office is located at 14 rue Roquépine, 75008 Paris and registered in the Paris Company Register under n° 335 133 229. In Switzerland, this document is issued by Aviva Investors Schweiz GmbH, authorised by FINMA as a distributor of collective investment schemes.

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The name “Aviva Investors” as used in this material refers to the global organization of affiliated asset management businesses operating under the Aviva Investors name. Each Aviva investors’ affiliate is a subsidiary of Aviva plc, a publicly- traded multi-national financial services company headquartered in the United Kingdom. Aviva Investors Canada, Inc. (“AIC”) is located in Toronto and is registered with the Ontario Securities Commission (“OSC”) as a Portfolio Manager, an Exempt Market Dealer, and a Commodity Trading Manager. Aviva Investors Americas LLC is a federally registered investment advisor with the U.S. Securities and Exchange Commission. Aviva Investors Americas is also a commodity trading advisor (“CTA”) and commodity pool operator (“CPO”) registered with the Commodity Futures Trading Commission (“CFTC”), and is a member of the National Futures Association (“NFA”). AIA’s Form ADV Part 2A, which provides background information about the firm and its business practices, is available upon written request to: Compliance Department, 225 West Wacker Drive, Suite 2250, Chicago, IL 60606

RA19/1363/22102020

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