November 8, 2018 – An editorial in the Wall Street Journal entitled “A Green Ballot Trouncing” posits that the mid-term elections held on November 6 highlighted “that more voters like Donald Trump’s policies than like him.” This was based on the voters’ embrace of Mr. Trump’s pro-growth energy positions expressed in the form of a nationwide rejection of initiatives to raise energy costs by rejecting various energy-related ballot measures. Four ballot measures in particular were mentioned directly in the editorial, including one in Washington to impose a carbon tax, one in Colorado to shut down most new oil and gas exploration, one that would have required the state of Arizona to derive 50% of its electricity from renewable sources, one in Alaska on development restrictions around salmon habitats and a fifth one in Nevada that would have placed a guarantee in the Nevada Constitution that energy customers have the right to choose their energy provider and generate their own for resale. At the same time in Nevada, a second resolution was passed, this one requiring that electric utilities acquire 50% of their electricity from renewable sources by year 2030. Before it becomes effective, this measure requires a second round of voting next year.
The editorial also implies that these outcomes reflect support for Trump’s environmental policies and a lack of concern or buy-in on the part of voters regarding climate change, global warming and the resultant environmental risks to which their communities may be exposed. Without weighing in on the relative importance of each of the ballot measures, their merits and various local considerations that might have led to these outcomes, we would offer an alternative and perhaps broader prospective for consideration in light of the fact that there were a total of 12 environmentally related ballot measures that were voted on in 13 states, including the five mentioned above. According to data compiled by the National Conference of State Legislatures, this year produced the largest number of environmentally-oriented statewide ballot measures. When evaluated over the last five years, this year’s level compares to a high of 9 measures in the general election of 2016 and an average of almost 6 per year with 0 measures recorded in 2015. This suggests that the subject of the environment is gaining traction and in turn, reflecting concerns. More importantly, however, seven of the 12 environmental measures actually passed this year, for an adoption rate of 58%. While still over 50%, the adoption rate in 2018 trails the five year average adoption rate of 66%, but still, in our view, signifies the concern on the part of voters for environmental risks, a favorable view toward environmental resilience and adaptation measures and not an endorsement of Trump’s energy policies.
November 6, 2018 – With the growth of ESG fund offerings, “selectors need to recalibrate their analysis … and screening mechanisms”. This is especially the case according to a CityWire article by Margaryta Kirakoslan, when ESG and performance is linked. In “How selection’s new toy became a priority” she states that the variety of “methodologies and biases” used by ESG managers add to the difficulties for selectors, as do the different factor weights employed by ESG rating firms. This said, qualitative assessments are becoming “essential” inputs to the selection process, particularly on questions of whether a fund manager is “really committed to ESG” and if they are “living up to his or her words” when rebranded products are involved. We are not surprised that fund selectors are facing analytical challenges when confronted with sustainable investments. After all, many are dealing with concepts that force them to make judgements on non-quantifiable and less tangible considerations. Further, they have to do so in the light of limited disclosures on the part of funds regarding ESG practices. But while the analytical context may be expanding, the “mission” for selectors essentially remains the same.
November 5, 2018 – There has been “a surge in data” on ESG factors according to the article “Big Data: Getting Granular with ESG Factors” by Ivy Schmerken in Finextra. This “surge” reflects growing demand from asset managers in response to wider investor interest. As a result new “big data,” including artificial intelligence (“AI”) providers, are making their expertise available to the industry. Much of these services focus on analyzing, identifying and ranking ESG factors of companies as investment candidates. A selling point is that there is subjectivity associated with publicly available ESG-related data, company-provided ESG data and analyst’s assessments that big data does not have. Another is that big data and AI have the ability to sort through the mounds of information to avoid the “weaknesses” in data and potentially identify issues and offer alerts more quickly. Our concern is that often such services are lacking in real world investment experience, not to mention sustainable investment fundamentals. Furthermore, they have no historical track records to support their data associations and conclusions.
November 1, 2018 – Unlike Vanguard’s $4.5 billion FTSE Social Index Fund, the firm’s new ETFs rely on exclusions only. Morningstar’s Jon Hall inquires “About these New Vanguard ESG ETFs” and suggests that Vanguard, by “focusing only on exclusions … missed the mark”. As such, they don’t take into considerations companies with “better ESG profiles”. We agree but would add that Vanguard has very real business concerns to consider. However, a “cautious” business approach should not overshadow Vanguard’s role as an industry leader and influence in setting sustainable mutual fund and ETF trends. Their cautious stance may send too strong a message of self-interest.
October 29, 2018 – In a InvestmentNews article by Liz Skinner, she feels that financial advisors don’t need to focus so much on defining socially responsible investing. In her article “Demand for ESG Investing is Knocking at Your Door … or Should Be,” she states that financial advisors need to focus on making sure that “they can describe the concept overall”. Also of more importance is for financial intermediaries to “help clients with investment choices” and answer “why clients may be interested” in sustainable investing in the first place. In other words, client education and being “comfortable talking to clients about the idea” comes first. We agree, but also recognize the complexity of the sustainable investing and sales decision. Knowing what one is selling and especially being comfortable matching the investment product with client sustainable investing goals and/or ESG considerations shouldn’t be short-changed in this process.
October 27, 2018 – A New York Times article looks at “How to Create a Climate Change Investment Strategy”. Directed at retail investors, Paul Sullivan identifies 3 “criteria” for “climate proofing a portfolio”. These include investing in green mutual funds and securities, and “companies trying to conserve energy”. He also suggests investing in Asia where some believe climate related impacts will likely be greater. We feel that such “how to” guides offer interesting, but sometimes gross insights. They also may underestimate the complexity of investing in general, especially when striving to meet goals such as sustainability. These broad guideline also provide financial intermediaries with very real opportunities to address investment details.
October 12, 2018 – Launched during the World Bank Annual Meetings in Bali, the International Finance Corp. (IFC) issued a Consultation Draft entitled “Investing for Impact: Operating Principles for Impact Management” that sets forth the essential features for managing investment funds with the intent to contribute to measurable positive social, economic, or environmental impact, alongside financial returns. The Principles consist of five elements, including strategy, origination and structuring, portfolio management, exit and independent verification. In turn, there are nine Principles that fall under each of the five main elements that serve as the key building blocks for an impact management system. These include: (1) Defining strategic impact objective(s), consistent with the investment strategy, (2) Managing strategic impact and financial returns, (3) Establishing the investor’s contribution to the achievement of impact, (4) Assessing the expected impact of each investment, based on a systematic approach, (5) Assessing, addressing, monitoring and managing the potential negative effects of each investment, (6) Monitoring the progress of each investment in achieving impact against expectations and responding appropriately, (7) Conducting exists considering the effect on sustained impact, (8) Reviewing, documenting and improving decisions and processes based on the achievement of impact and lessons learned, and (9) Publicly disclosing alignment with the Principles and provide regular independent verification of the extent of alignment.
Impact investing is a market that is currently valued at an estimated $228 billion, a fivefold increase since 2013 according to the IFC document. We agree that clear definitions and guidelines, especially if widely adopted, will assist managers as well as investors and other interested parties. That said, there are also two issues in particular we have regarding the IPC’s Consultation Draft which remains open for comment to the end of December 2018. The first involves a definition of ESG offered in the document that refers to the three factors, environment, social and governance factors when measuring the sustainability and ethical impact of an investment. While undefined, ethical impact introduces a potential conflict with an investor’s fiduciary responsibility and could become a deterrent for impact investing. Also, Principal 9 which calls for independent verification of the extent to which an investment aligns with the Principles, unless conducted internally, may lead to additional expenses and, in the process, could also serve as a deterrent.
October 1, 2018 – A petition for rulemaking on environmental, social and governance (ESG) disclosures was submitted on September 1st to the SEC by a group of about 50 signatories, including public pension funds, law firms, asset management firms, NGOs, state treasurer’s, foundations, research firms and other interested parties. The petition calls on the SEC to engage in a rule making process to develop a framework for public reporting companies to use to disclose specific environmental, social and governance (ESG) information in place of current voluntary initiatives or current SEC requirements.
The document sets out the following key points:
- It calls for the Commission to initiate notice and comment rulemaking to develop a comprehensive framework requiring issuers to disclose identified environmental, social, and governance (ESG) aspects of each public-reporting company’s operations;
- It lays out the petitioners’ views regarding the statutory authority for the SEC to require ESG disclosure;
- It sets forth the materiality of ESG issues;
- It highlights large asset managers’ existing calls for standardized ESG disclosure;
- It discusses the petitioners’ views as to the importance of such standardized ESG disclosure for companies and the competitive position of the U.S. capital markets; and
- It relies on existing rulemaking petitions, investor proposals, and stakeholder engagements on human capital management, climate, tax, human rights, gender pay ratios, and political spending, to highlight that these efforts suggest, in aggregate, that it is time for the SEC to bring coherence to this area.
We agree that SEC mandated SEC disclosures could lead to the production of consistent, comparable and reliable data in a way that 25 or so years of evolving voluntary sustainability disclosures have not been able to achieve. Having the SEC mandate ESG disclosures will require defining the meaning of ESG, the relevant and material factors that comprise ESG and how to consider these from a time horizon point of view. This will not be an easy task and likely require companies to incur additional costs to produce such information that presumably will also be subject to external audit. The signatories argue that the costs currently allocated to the production of sustainability reports could be redirected so that issuers will not face new and burdensome costs. We don’t believe that this will actually be the case since sustainability reporting is frequently meant to portray a company’s philanthropic activities, community, as well as societal engagements and these reports, are not likely to be supplanted by ESG reporting intended to address company risks and opportunities and their financial implications.