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ESG: Important Criterion or “Well-Intentioned Window Dressing” for Institutional Investors?

31/03/2017

A number of investment managers have recently launched SRI and ESG investment strategies. Is demand from UK pension schemes growing to the degree that the industry hype suggests, or are these managers jumping the gun? Annalise Toberman, Head of Insight at RiF offers her views.

As we began analysing the results from the first wave of our UK Institutional Market Study, back in November 2015, the Research in Finance team undertook the unenviable task of trawling through every local government pension scheme’s Annual Report. Aside from aggregating information on current asset allocation and recent changes to mandates, we sought to understand how much importance the schemes were placing on Environmental, Social and Governance (ESG) principles. Mounting press attention and general industry chatter suggested that these factors were really gaining traction. There was also a sense of inevitability about institutional investors in the UK finally boarding the ESG train: we increasingly lagged our European counterparts on these principles, and a growing body of evidence pointed to them having a positive effect on long-term performance.

In this context, we were surprised to find a muted response to ESG from the local government schemes. Just over a tenth were taking action beyond simply joining industry bodies – i.e. talking about the issue – and expecting investment managers to consider the principles on their behalf. The findings from our online survey of schemes, investment consultants and corporate advisers confirmed that ESG investing remained a minority sport for UK pension schemes. Deficits and longevity risk were weighing heavy on the minds of scheme managers and trustees – and of course, continue to do so. With this mind-set, there is a reticence to embrace investment strategies that could restrict returns, at least in the short term.

A year on and our research indicates that ESG remains of secondary importance to schemes and consultants. It ranks low relative to other factors in investment manager selection. Most scheme managers and trustees report that they don’t engage with ESG principles at all, or that they only do to the extent that they expect investment managers to have a clear ESG policy. One cynical scheme manager commented, “I consider ESG to be nothing more than well-intentioned window dressing.”
Yet lack of enthusiasm for ESG is not universal. In fact, a sizeable proportion of larger UK schemes are taking ESG more seriously, including it as a criterion for selecting managers across the board or investing/ planning to invest in ESG-themed mandates. Additionally, some are employing a specialist consultancy such as Pensions & Investment Research Consultants or Hermes EOS to help them improve their corporate engagement.

Returning to the opening question, ESG hype does appear to be outpacing actual demand, but it feels like the growth potential is there, and it certainly doesn’t hurt to build a track record in this area. What remains to be seen is whether regulation will come along to spur ESG investing in the UK, or if the investment management frontrunners will have to play the long game.

If you’d like to hear more about UKIMS please drop me a email.

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