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Industry reacts to flagship consultation on ESG’s future

The Investment Association has today launched a consultation on sustainable and responsible investment for asset managers. Responses have flooded in, suggesting the investment industry may well still be split on the merits of ESG.

Morningstar Europe director of passive strategies and sustainability research Hortense Bioy

Product development in the sustainability investment space has picked up in the past couple of years. We’ve seen a proliferation of environmental, social and governance funds on the active side as well as the passive side, making it easier than ever to invest for sustainability and impact.

In Europe, a record total of 296 new open-end funds and exchange-traded funds were launched in 2018, compared with 260 in 2017 and 166 in 2016.

Equally, the number of passive sustainable fund launches in 2018 reached a record high at 48, including 36 ETFs.

There are now close to 2,500 ESG funds available for sale in Europe, including 720 in the UK. These represent various approaches, from light-touch ESG to impact.

The issue of retail clients not really knowing what they are buying and having “no visibility” at product level is being addressed at the European level with the European Commission’s action plan on sustainable finance. On May 24 last year, the European Commission unveiled its first sustainable finance package, which includes a proposal to create an EU taxonomy for sustainable activities.

One of the key reasons for a taxonomy is to give investors added confidence that an investment is indeed “green” and to avoid “green washing”. The new language will force asset managers to more clearly define their investment strategies and processes. Increasing the clarity of what defines sustainable investments is vital as the importance and awareness of ESG principles continues to escalate.

At Morningstar, we have recently developed our own taxonomy: we have broken down the universe of sustainable investments into three main groups: ESG integration, impact, and environmental sectors. We also flags funds that only apply exclusionary screens. This is quite similar to what the IA is proposing.

Standard definitions will help investors navigate the complex and multi-faceted ESG landscape. It will also add a level of granularity that is not available today. Investors looking for a specific outcome will be able use these definitions and data points to screen the sustainable investment universe.

With respect to the development of a UK product label, it is an interesting proposition but there are already plethora of “green” and “SRI” labels, especially in Continental Europe. What investors really need is harmonisation. It would make sense to do it at the European level. Although with Brexit, the UK may want to do its own thing.

As part of its first sustainable finance package, the European Commission also proposes to require asset managers to demonstrate how they integrate sustainability risks in the investment process. This is in line with what the IA is proposing with its ‘stock-take’ of reporting frameworks. It will allow investors to gain insight into strategy-specific approaches to sustainable investing and, in conjunction with portfolio metrics, it will help them assess whether a sustainable strategy is fulfilling its intentions.

Interactive investor head of personal finance Moira O’Neill

The ethical funds sector has grown and yet disappointingly stayed the same over the last decade, and remains very much the ‘pre-teen’ of the investment industry. Whilst ‘ethical fund’ assets have grown from £4.5bn in 2008 to £16.9bn by quarter 3 2018, as a percentage of the industry they have almost stood still, moving from 1.2 per cent to 1.3 per cent, according to the IA.

It’s perhaps no surprise that the sector has failed to make it into adolescence given that there is still no sector for sustainable funds and the industry doesn’t seem to agree on what to call them.

It makes what should be a straightforward task an uphill struggle, even for experienced analysts. It’s a ‘chicken and egg’ issue which could in part explain why these types of funds are unfortunately not topping our customers’ shopping lists at the moment.

Despite the growing interest in ethical investing, some investors are still sceptical due to difficulties in defining and measuring ‘ethics’ in investment. Along with variety of definitions such as ‘ethical’, ‘socially responsible’, ‘sustainable’ or ‘ESG’ investment, there are many different approaches.

These include negative-screening funds which exclude unethical companies from tobacco, gaming and weapons industries; thematic and positive-screening funds investing in companies that are beneficial for a specific ethical, social or environmental theme; and responsible engagement funds using investment ownership as a means of influencing companies so that they improve environmental, social or governance standards.

Many investors believe that investing ethically means sacrificing decent returns, but the evidence does not support this. On the contrary, many ethical funds have delivered strong performance over the longer term, a combination of most of these funds having low exposure to the energy and mining sector and being biased to smaller companies.

Royal London Asset Management head of sustainable investments Mike Fox

We whole-heartedly welcome the initiative launched today by the IA. Sustainable and responsible investing is a rapidly growing role for asset managers to adopt in an effort to support positive social and economic development.

This, coupled with delivering on the needs of savers, is becoming increasingly important. We therefore believe that this initiative will be a significant step in providing clarity and consistency to a fast evolving part of the investment industry.

At RLAM, we have an industry-leading range of sustainable funds and a responsible investment approach which is embedded across our business. We are committed to playing a leading role in this area.

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