Sustainable investing is gaining momentum in the West and seems to be emerging as a new trend in Asia as well.
For decades, investors have been making investment choices based on criteria important to them. But what has been fascinating is the evolution in terms of stock selection on ethical principles.
The origins of sustainable investing rest on exclusionary screening, where certain investors avoid investing into ‘sin’ stocks due to their religious beliefs. As investor involvement has increased over time, there has been a visible shift in preference towards taking a more inclusionary approach.
From ‘negative’ screening, it has evolved to ‘positive’ screening.
Initially, investors avoided businesses such as alcohol, tobacco or arms production. Now, they look for companies that actively choose to pursue sustainable practices and manage environmental, social, and governance (ESG) issues.
What set the ball rolling?
The first ethical mutual fund was launched in 1971 in the US by two United Methodist ministers, Luther Tyson and Jack Corbett, who sought to avoid investing in companies contributing to the Vietnam War. They wanted to align their investments with their values and urge companies to adhere to a standard of social responsibility.
Over time, ethical investing began to creep into various conflicts and hazards. The anti-apartheid movement advocated for divestment from South Africa. The Exxon Valdez oil spill in Alaska created major furor amongst activists putting the US at crossroads with fossil fuel companies.
Such events have brought investors, business leaders, and public-interest groups together to work on adoption of sustainable business practices and the push for transition to a low-carbon economy.
Growing concerns around a warming planet is making stakeholders demand increased accountability and transparency in how companies are assessing the likely environmental impact of a business proposal and identifying options to minimise environmental damage. Organizations recognise the importance of environmental concerns and that they will be scrutinised by a large section of stakeholders.
The use of water, power and other natural resources are gaining more importance in board meetings than ever, as businesses move to mitigate the risks related to climate change.
As a result, ethical investing from negative screening has now evolved into ESG. The world’s biggest asset managers are also coming under severe pressure as they are expected to play a critical role in arresting climate change. There’s a growing demand from investors, especially women and millennials, forcing portfolio managers to focus on tackling global warming and moving investments away from oil, gas and mining companies or those financing fossil fuel producers.
Blackrock recently declared that it is integrating sustainability into all of their firm’s actively managed investment strategies, with an eye toward reducing ESG risk. To that end, BlackRock expects to exit its exposure to all thermal coal producers this year.
A solid criteria in investing
These ESG factors are getting to become the foundation of investing risk. Large institutional investors, including pension funds and sovereign wealth funds have embraced ESG, and the practice is gaining momentum. To date, investors with $28 trillion in assets under management have signed on to the Task Force on Climate-related Financial Disclosure (TCFD) initiative, pledging to report on the carbon emissions associated with their portfolios.
Signatories to the 2014 Montreal Carbon Pledge, sponsored by the Principles for Responsible Investment and signed by more than 120 asset owners and asset managers with more than $10 trillion in assets, have committed to measuring and disclosing the carbon footprint of their equity portfolios on an annual basis.
Though ESG investing started in Europe, it has spread its wings in Asia too. Japan’s Government Pension Investment Fund recently increased pressure on its managers to focus on ESG and socially responsible investing by officially adopting ESG indexes for Japanese equity, and later announced to take further steps to promote ESG integration into fixed income investment. Authorities in Hong Kong and Singapore are also introducing regulatory frameworks for sustainable finance, while the Chinese regulator, China Securities Regulatory Commission has made it mandatory for A-shares companies to disclose ESG-related information by 2020.
India too is beginning to witness some action in this space. Asset management companies are signing up for the United Nations principles for responsible Investment and some are factoring in the ESG lens while making investment decisions across their actively managed strategies. A few asset management companies have launched dedicated ESG funds while others are in different stages of planning their launch. Quantum and SBI Mutual Fund have a dedicated ESG funds while Axis Mutual Fund recently launched its ESG offering. SBI Funds Management has as part of their fiduciary responsibility and risk-management strategy, integrated ESG factors into their investment decision-making process.
Climate change is fast outpacing us and needs immediate action. Sustainable investing is one such way to address the challenge. Indian institutional investors including insurance funds and pension funds need to play a big role to drive this change and pressure companies to ensure climate change is front and center in their business decisions.
While India has a long road ahead, we are on the right path. Sustainable investing is here to stay.
This article by Aditya Agarwal, MD of Morningstar India, initially appeared in The Economic Times
