The asset management industry is in a solid position to support a more sustainable future by embedding ethical factors into every stage of the investment process. It also has a role in sponsoring new, greener industries while encouraging traditional sectors to evolve. However, to achieve these goals, it’s clear that some creative thinking will be required.
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Keeping pace with innovation
Sustainable finance has come a long way from its good company versus bad company ancestry to become a fundamental element of the investment process. Jenn-Hui Tan, Global Head of Stewardship and Sustainable Investing at Fidelity International, explains that ethical investing is a constantly evolving practice. It requires managers to think creatively when analysing a company and its activities, as the latter can often change at speed. “We need to take a holistic approach that fully grasps the lifecycle impact of a firm’s products,” he says. However, Tan also states that innovation can sometimes move too quickly for asset managers and entities when it outpaces existing regulations. Here Tan cites social network providers that are governed by laws “designed for printing and publication in the physical age.”
Embedding climate-risk considerations
Remaining with the theme of adaptability, Henk-Jan Rikkerink, Global Head of Solutions and Multi Asset at Fidelity International, illustrates that a dynamic ethical manager has to consider longer-term climate scenarios. “Achieving the best client outcomes involves mapping asset allocation positions over three, five, and 10-year time frames,” he says. And this must also be done at the regional, country, and sector levels. “There are real opportunities to use climate insights to tilt portfolios,” adds Rikkerink.
It’s undoubtedly true that predicting the future based on available data can be a tricky business. Still, Rikkerink notes that thanks to the decarbonisation commitments made by many countries – especially those in Europe – it’s easier to gain a view of businesses that may prosper. “The renewables sector is rapidly expanding,” he points out. “And a high-quality basket of these stocks could be a great way to bolster returns.”
A wake-up call
Perhaps we are getting ahead of ourselves because sustainable investing also affects the here and now. “Asset managers must think about how they address the implications of climate risk on existing investments,” says Tan. In particular, he describes the publication of the sixth report by the United Nations’ Intergovernmental Panel on Climate Change (IPCC) as “a real wake-up call” that reminds us that environmental challenges must be addressed today (as well as tomorrow and beyond).
Establishing a comfort zone
“Clearly defined climate policy can act as a cushion that provides a greater degree of comfort when considering sustainability concepts,” observes Andrew McCaffery, Global Chief Investment Officer at Fidelity International. He argues that this sense of ease allows the industry to establish more forward-looking asset allocation profiles. A point confirmed by recent surveys of engagement with environmental, social, and governance (ESG) factors. “This is an important theme to highlight because investors will not just see a real return on their capital but also one that lowers the global carbon footprint and moves us closer to net zero,” says McCaffery.
Market-specific developments
Regarding environmental impact and the evolution of standards, there has been more progress in the equity and fixed income space than in private markets, which tend to trail in terms of innovation. McCaffery elaborates on this matter by saying that private markets are laggards in terms of sector screening and divestments. There will be some catch up over time, but progress will, to some extent, be constrained by the level of influence market participants can exercise. “If you purchase an asset, it may be a third party or even a government that oversees it. As a result, the ability to exert some form of control may be limited,” says McCaffery.
The outlook for 2022
One key area of focus should be carbon pricing. “At the moment, the carbon tax is around US$4 per tonne of greenhouse gas emissions, but I fully expect this to rise,” [1] says McCaffery. He admits that carbon pricing can be a problematic notion to comprehend, but still, the industry must find a way to build it into the overall thought process. Another development to look out for in the new year is economic transition. “We need to help older industries cut their emissions. And I really hope this process starts to accelerate,” he adds.
Rikkerink, though, voices concern about ESG factors, attesting that while there have been advancements with the ‘E’ and ‘S’ elements, he thinks that the ‘G’, or governance, remains in the slipstream. He would like to see key performance indicators linked to strategies that support, for example, homelessness or vulnerable people. “That would do a lot of good from a societal perspective,” he concludes.
[1] IMF, Jul 2021; Fidelity International, Dec 2021
