Taking ESG to the next level
Far beyond box ticking, Sustainability 2.0 by Fidelity aims for impact and influence.
By now, environmental, social and governance (ESG) considerations are widely used by asset managers as a risk management tool. But the time is right for a step change towards achievement of impact and influence, says Jenn-Hui Tan, Fidelity International’s global head of stewardship and sustainable investing, based in Singapore.
This fundamental shift and expansion of the framework and tools for ESG analyses underpin Fidelity’s development of Sustainability Ratings 2.0, which provides a forward-looking view of the extent to which a company’s performance on material sustainability issues could support, or impair, long term value creation for investors.
Says Tan: “What we’re seeing as we emerge from the pandemic and as ESG begins to mature and deepen its influence is that ESG is now being viewed not just as a risk management tool, but also as a positive tool for external influence.”
“In other words, what can the financial industry do to allocate capital towards societally positive outcomes? Also, what can we do in terms of using our influence to improve the business practices of the companies we invest in?’’
Fidelity’s approach to ESG integration relies on 3 pillars: research which embeds internal ESG ratings; engagement to enhance insights and seek positive corporate change; and collaboration between portfolio managers, sector and ESG analysts, and companies to work towards improvements based on agreed milestones and timelines.
Sustainability 2.0 yields in-depth analyses reflecting the bottom-up fundamental and sustainable research views of Fidelity’s investment analysts. The overarching objective is to come up with a measure based on “double materiality’’. This concept focuses on an evaluation of the financial risk of the social and environmental factors for companies. But beyond that, it also looks into the actual and potentially far-reaching impacts of a business on people and the planet.
“Our emphasis on double materiality is the idea that ESG issues are not just about financial risks to a company. It is also about how a company’s behaviour can create positive or negative impacts on the environment and society. We take a 10-year view because there are many issues that you may think would have an impact, but they are not yet in the financials of a company and will emerge over time.’’
Double materiality is 1 of 3 key themes that Fidelity has identified as areas of focus this year. The other 2 are deforestation and a “just transition’’.
Out of many environmental themes, deforestation is key because it sits at the intersection of 2 big existential crises – climate change and the loss of biodiversity, says Tan. “Forests are carbon sinks; they absorb about a third of the carbon we emit when we burn fossil fuels. But at the same time, they’re home to 80 per cent of the world’s animal and plant species. Traditional economic models have failed to effectively reflect the value of natural capital, resulting in over-exploitation and subsequent loss of key ecosystem services.’’
The firm is examining the deforestation risks within portfolios, starting with “forest-risk” agricultural commodities which are by far the largest cause of deforestation: beef, palm oil, soy and timber, the production of which accounts for 8% of global CO2 emissions annually, more than the entire European Union. “But we need to look beyond production into the full value chain of those commodities, because they contribute to, and are dependent on, the risk of deforestation and biodiversity loss.
“This means examining directly impacted industries like agriculture and construction, and also those like tourism and pharmaceuticals that are dependent in some way on natural resources which the production of these commodities threaten. We want to be able to assess and ultimately engage with companies we invest in to ensure that agricultural-driven deforestation is eliminated from their supply chains and from our portfolios by 2025.’’
Fidelity has joined the Natural Capital Investment Alliance, a group of 15 asset managers who have collectively pledged to mobilise more than US$10 billion by the end of 2022 into investment products that aim to protect natural capital.
The third theme - a just transition - seeks to ensure that economies and people are not left behind in the transition to a net-zero world. “Developed nations achieved their development on the back of carbon emissions created through industrialisation. It is right that they are now leading the decarbonisation charge. But the drive to net zero shouldn’t prevent developing economies from developing or employees who are displaced by greener technologies from finding meaningful work. Climate transition will ultimately transform many of our world’s building blocks, such as energy, food and consumption. It is critical we assess its impact at a country, business and individual level and ensure we maintain broad, popular support for the transition.’’
The analysis required in Fidelity’s Sustainability Ratings is granular and forward-looking. “Research can highlight opportunities for improvement that can then drive engagement with the company. Our ratings become a bottom-up way of assessing how a company manages its impacts; can they do better?’’
Fidelity aims to take the concept of ESG integration to a new level. “ESG is not about putting in place policies and processes. It’s about changing the hearts and minds of our investment professionals, what they do and how they do it.
“We’re still in the early stages of ESG analyses; we’re at the foothills. There is much room to grow and practices are evolving. What we’re aiming for is to achieve genuine and authentic integration. We think that’s the best protection against greenwashing, and also the best way to deliver outcomes for clients and to actually do what we say we do.’’
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