In recent years, many asset managers have responded to pressure from regulators, asset owners and public opinion to explicitly incorporate ESG factors into their investment decisions. They’ve also developed sustainable investing solutions that target specific sustainability outcomes.
While related, ESG integration – ESG as an input in the investment process – and sustainable investing – investing to deliver ESG-related benefits, are not the same.
While a lot of progress has been made to integrate and address global sustainability challenges, much more needs to be done.
Here are four big sustainability trends that will shape the way people invest for decades to come:
1) Climate change
The physical effects of climate change affect every region, sector and community. These effects bring major risks, as well as opportunities, as countries and companies transition to low-carbon technologies.
Net-zero targets cover some 90% of the global economy. The Paris Agreement saw countries pledge to achieve carbon net-zero emissions by 2050, in order to limit temperature rises to ‘well below’ 2°C (and preferably within 1.5°C) above pre-industrial levels.
That said, credible action that will deliver these targets is still missing – we’re on a 2.4°C trajectory, based on 2030 country targets; carbon emissions have hit record levels and are still on the rise. These credibility gaps need to be closed.
Investors must understand how climate change will affect the value of their portfolios. They need to spot opportunities as private capital is funnelled into carbon net-zero solutions. They also need to identify credible transition leaders who will drive innovation and real-world decarbonisation. Investing for net zero and, increasingly, climate adaptation are important themes in our investment strategy.
Regulatory developments are gathering pace. For example, the Financial Stability Board’s Task Force on Climate-related Financial Disclosures (TCFD) offers a blueprint to turn climate-risk concerns into tangible recommendations (e.g., use of climate scenario analysis to gauge risks). We follow those recommendations and encourage others to do so.
Biodiversity refers to the variety of life on Earth. The World Economic Forum estimates that more than half of the world’s economic output – some US$44 trillion – is moderately, or highly, dependent on nature and healthy ecosystems.
But without urgent action, we’re heading towards an extinction event – the disappearance of flora and fauna – on a scale not seen since the demise of the dinosaurs some 65 million years ago. Over consumption of natural resources and the ecological damage this causes has sparked a sustainability crisis on a par with climate change (and one that’s closely linked to it).
That’s why preventing biodiversity loss, or preserving ‘natural capital’, is set to become the next big consideration for investors in their ESG investment-integration process. There are material risks and opportunities across sectors, such as agriculture and mining, with implications for investors.
Investors also need to prepare for the impact of increased regulation. For example, the EU Taxonomy has established an approved list of environmentally-sustainable economic activities. Meanwhile, the creation of the Taskforce on Nature-related Financial Disclosures (TNFD) means firms must improve disclosure on their reliance and impact on natural resources.
Measuring our impact and dependency on nature is complicated and we’re at the start of a long journey. But investors need to move away from the idea that the restoration of a healthy ecosystem is a cost. They must view it as an opportunity to support flourishing economies, the transition to a lower-carbon world, as well as create a more equal society.
3) Diversity, equity & inclusion
Growing awareness of issues such as the gender pay gap, the Black Lives Matter movement, widening economic inequality, and the disproportionate impact of Covid-19 on disadvantaged people, has focused attention on structural discrimination within societies.
In a business context, diversity – a company workforce with different characteristics – and inclusion – giving staff the ability to contribute fully and effectively – have become hot topics.
It’s not just about promoting fairness. There’s growing empirical evidence showing that, under the right conditions, diversity and inclusion can lead to better business outcomes. These include attracting and retaining the right talent, higher productivity, and better financial performance.
A workforce that delivers diversity of thought can increase innovation and better serve different customer segments. On the other hand, as many economies age (with fewer working-age people), consistently overlooking talent could mean the difference between corporate success or failure.
New tools, such as our Gender Equality Index, can help investors make more informed choices. Investors can also make a difference via corporate engagement, voting behaviour, capital allocation and advocacy. But the policy landscape also needs to improve to address some of the societal challenges related to these issues.
Governance, in its broadest sense, refers to the parameters within which countries and companies are run. Good governance is vital at both the country and corporate levels.
At a national level, countries may work towards the United Nations’ 17 Sustainable Development Goals (SDGs) – an example of good governance. Meanwhile, investing in a country that invades its neighbour could hurt your portfolio. Tools, such as our Global Macro ESG Index, can help identify these risks.
At the company level, strong governance principles and risk-management practices translate into sustainable long-term investment performance. For example, we always recommend an independent board of directors representing diverse views.
Investors can consult the OECD’s Guidelines for Multinational Enterprises which contains the latest best practice with regards to: corporate governance; prevention of bribery and corruption; pay; respect for human rights; tax transparency and treatment of employees.
Many people are only aware of governance issues when things go wrong – banks that take too much risk they don’t understand; companies that ignore harassment allegations from employees; ‘hot’ start-ups without basic controls in place to prevent fraud.
These issues will never go away. As more pension money is invested into less developed markets – where governance standards may not be as high – investors can’t afford to let their vigilance slip.
These four sustainability issues will shape the way people invest for many years to come. It’s clear that private capital, in addition to private-sector companies, will have an important role to play.
However, a supportive regulatory environment needs to be in place to ensure that investors have the proper incentives to allocate capital in a sustainable way.
This is already happening, but perhaps not fast enough. Enforcement of existing rules is also an issue. Change can only happen with the right rules in place, properly policed.
Given the shortcomings of the regulatory landscape, other stakeholders – investors, businesses and consumers – must step up. With time running out, considering ESG factors is more important than ever.