Is ESG finally here to stay?

It’s long been a ‘buzzword’ for investors and fund managers around the world – but is it time to acknowledge that ESG is more than a passing fad? Two female independent directors offer their view.

Environmental, Social and Corporate Governance (ESG) has been in the public consciousness for a few years now – but it’s fair to say that 2020 has seen a huge uptick in awareness. The Covid-19 pandemic might have been a trigger – as countries systematically ‘locked down’, we saw unexpected improvements in the environment. But more than that: this year, communities around the world have also engaged in serious debates around gender and racial inequality. Kamala Harris has made history as the first woman – and first woman of colour – to be elected as vice president in the US. The younger generation is engaged in this conversation; and besides protesting and voting, they’re now using their investment dollars to do their talking. Can we finally state that, far from being a passing interest, ESG is here to stay?

The desire for ESG may be high; certainly, a growing group of investors are assessing, even requesting, that their investment strategies are ESG-compliant. However, there are several operational challenges to overcome first. For one, most ESG factors are currently subjective and assessed qualitatively, so it is difficult for investors to properly evaluate a fund’s approach to ESG.
Moreover, there has been a lack of consistent data to properly define ESG; but within the next year we expect to see more standardised ESG reporting data that will help investors pinpoint and track what is important to them. There are interesting developments in the regulatory space worldwide, with various amendments from regulatory bodies towards ESG considerations – such as transparency for investors, and guideposts when considering non-financial objectives such as ESG aims. One strong example is the EU Sustainable Finance Disclosure Regulation, which requires managers to disclose the manner in which sustainability risks are integrated into investment decisions, and the likely impact of these decisions on returns.

Continuing progress

Over the next year we expect that regulatory bodies will begin or continue to create regulations to foster increased transparency for investors and to standardise information among the various firms’ ESG practices. While this is an important factor for accountability, it can come at a high cost for those firms that will have to put the necessary framework in place for compliance. When considering investment strategies, some may think there will need to be a balancing act between the ESG focus and generating alpha. However there are many who believe that an ESG focus can be additive to alpha.

Personally we agree with those who believe that ESG should not be viewed as a slant on strategy, but rather considered a ‘process’. An ESG strategy might involve launching an alternative energy fund; but we believe fund managers need to ‘walk the walk’, by developing an ESG structure within the firm. This might involve, for example, forming a committee comprising senior members of staff who represent various departments such as HR, operations and portfolio management, reporting up to a senior-level sustainability officer. This committee should also look at their counter parties and other service providers from an ESG perspective. For example, is the board diverse? Is ESG considered in the audit firm selection and administrator selection? As a starting point, the investment manager could ask to have more diverse teams on their fund.

As two female independent directors who have watched the evolution of ESG, we believe that ESG is indeed here to stay, and is proving to be an important investment consideration. We are witnessing an increased social consciousness which goes hand in hand with the ESG revolution. This is apparent in investors’ growing interest in the activities of the funds they invest in, the diversity of the fund board, and the desire for increased accountability through ESG reporting.