Environmental, social and governance investment strategies continued to enjoy a significant increase in assets, rising $8.7 trillion in just two years to $12 trillion in the U.S. alone, according to a 2018 report from the US SIF Foundation. And the ESG trend may be fueled over the next few decades as $30 trillion of private wealth passes to the next generation.
Investors who are new to the ESG space may find it a challenge to know where to start when selecting an ESG strategy, as there seems to be an ever-growing number of strategies in the marketplace. However, there is no one-size-fits-all approach by managers to incorporating ESG principles into the investment process.
We are of the firm belief that investors can benefit from seeking ESG-focused managers and do not need to forego performance in doing so. However, discernment is critical in the manager selection process. The challenge is to identify which products are leveraging meaningful data and analysis in a thoughtful way, consistent with the investor's philosophy.
The foremost step in evaluating which approach is appropriate for any given investor is defining the purpose or goal of the ESG investments. Do you want to tilt toward environmental, social or governance issues, or all three equally? A plethora of investment products is available in each of these categories.
When assessing an ESG manager, there are four key points to bear in mind:
• Responsible organization. A small subset of asset management firms have responsible investment principles engrained in the firm culture, philosophy and mission statement. It's important to assess the firm's overall commitment to responsible investing. This commitment can be deduced from the points below.
• Dedicated ESG investment professionals. Many firms focused on ESG investing have dedicated analysts who identify ESG issues relevant to specific regions and industries. They stay abreast of evolving regulations and policies, evaluate ESG data providers and systems, and educate their internal investment professionals. Alternatively, some firms incorporate ESG analytics into the traditional security analysis, embedded in the research process of the security analyst.
• ESG research. Does the firm leverage ESG data and analytics in security analysis from a risk perspective? While many asset managers have the ability to screen out specific securities and industries based on client restrictions, few managers incorporate ESG analysis across investment decisions as an engrained component of portfolio construction. The use of third-party ESG data can be an effective way to reduce management fees. If third-party data is utilized, independent assessment and verification would be prudent.
• Shareholder advocacy: With a vested interest in a company's ESG performance, many investment managers will work with portfolio companies to influence their ESG profile. There are several methods of working with companies to improve ESG characteristics such as voting shareholder proxies, engaging directly with company management, and engaging with competitors to enhance industry standards.
Mamadou-Abou Sarr is director of product development and sustainable investing at Northern Trust Asset Management.