At the moment, it seems Environmental, Social and Governance (ESG) investing is one of the most talked about subjects in the market. Asset Managers have to deal with investor questions, new regulations, national and international studies and reports, market research and an accompanying explosion in ESG data. Trying to stay on top of all of this can be a daunting prospect.
In the beginning
Responsible investing, the precursor to ESG investing, can be traced back to the 18th and 19th century and ethical investing pursued by religious groups such as the Methodists and Quakers, who avoided investments connected to alcohol, tobacco, slavery and gambling. This practice widened with socially responsible investing in the 1960s and 1970s by university endowments that led to the exclusion of investments in industries such as tobacco and weapons and companies involved with countries such as South Africa. With the rise of social media, more and more companies are under public scrutiny and the spotlight has now turned on those that invest in them.
The involvement of global institutions began in 2000 with the publishing of the UN Millennium Development Goals aimed at tackling poverty. These were replaced in 2012 by the 17 UN Sustainable Development goals that aim to address environmental, political and economic challenges by 2030. This was followed by the 2015 Paris Agreement focused on reducing greenhouse gas (GHG) emissions to limit global temperature rises to less than 2 degrees Celsius. This has led to investors paying greater attention to companies’ direct (scope 1), indirect (scope 2) and supply chain (scope 3) GHG emissions. This work is being taken further by the G20 Task Force for Climate Related Disclosures (TCFD) which wants more companies to manage and report on climate-related risks and opportunities.
Why it matters to investors
In 2004 the United Nations global compact published the whitepaper “who cares wins” and was the first to use the term ESG. This led to the 2006 UN Principles for Responsible Investing (UN PRI) that now has over 3,000 signatories that manage more than $3 trillion in assets. With so much money controlled by responsible investors, it’s not surprising that investors are expecting more from asset managers. This can be in the form of due diligence questionnaires on investor practices to mandates tied to exclusion lists and exposure monitoring to ESG transparency reporting looking at trend analysis and ESG risk profiles.
Here come the Regulators
Given the increased level of public concern, the introduction of financial market regulations was inevitable. The Sustainable Financial Disclosure Requirement (SFDR) requires financial market participants in the European Union (EU) or with EU investors or EU funds to consider 14 mandatory Principal Adverse Indicators, with the other 46 indicators being optional at the moment.. These include the measurements of GHG emissions, biodiversity, water, waste and social and employee matters, with reporting commencing in 2022. It seems likely that this will soon be followed by TCFD related regulations that will require more prescriptive reporting by companies in certain countries.
Data to the rescue?
There are over 100 data vendors supplying the market with ESG scores, ratings and reports on companies based on company disclosures and independent research. ESG data is still in the early stages of development and this can lead to ESG data vendors reaching different ratings when looking at the same company. It’s therefore important to understand exactly how an ESG vendor calculates their ratings and the source data that drives the ratings. This will then help end-users to understand unexpected results such as a March 2021 article that showed a tobacco company and a mining/commodity trading company were both in the top 5 ESG rated companies in the UK FTSE-100.
How can we help?
SS&C is building an ESG solution to help managers with their ESG monitoring, reporting and regulatory compliance. We have partnered with leading data vendors and major institutional investors to create an ESG transparency report so that you can keep investors informed of your ESG risk exposures. We are working with clients to produce product involvement reports that will help them monitor their exposure to sensitive business areas. We have built regulatory solutions to help managers meet SFDR rules and we are now working on carbon reporting. To discuss any of the points raised in this article or find out how SS&C can help you, please contact RegInquiries@ssnc-corp.global
Alternative Investments, Asset Management, EMEA, Regulation