We learned back in October that companies that adopt
ESG policies in their day-to-day operations enjoy both
market- and accounting-based outperformance over the
medium to long term. This was big news, so let me explain it as
clearly as I can... ESG isnt just for hippies anymore;
extra-financial variables are legit and have to be taken
seriously by institutional investors, especially when
considering long-term investment strategies.
So, for the champions of ESG,
it's mission accomplished, right? High fives all around? Why,
all thats left to do now is simply change the way the
broad community of institutional investors the public
pensions, sovereign wealth funds, endowments, etc. make
their investment decisions. That should be relatively easy,
Anybody whos spent much
time working with these Giants knows that innovation and change
do not come easily to this crew. And so the good folks that
lead the ESG movement will still have plenty of work to do
before these long-term factors play a role in their day-to-day
This fact is not lost on the
people in charge of the UNs Principles for Responsible
Investment, which is why the PRI is already planning its next
set of policy initiatives. In fact, PRI just released a new consultation
document that suggests its top priority will be on the
top-down barriers to a sustainable financial
system. Heres a blurb:
investment practitioners know from direct experience that
short-termism, misaligned incentives in the investment chain,
environmental and social externalities, instability in the
financial market as a whole and a range of other factors can
impede their efforts to integrate ESG issues into investment
decisions and to make capital markets more sustainable overall.
Some of these are addressed by the PRI Initiatives
existing work. Many are not... This new action-oriented work
stream will bring together groups of signatories to develop
practical ways for investors to change their own practices in
order to address these challenges, and proposals for any
necessary changes to public policy.
In other words, in order to
enjoy the long-term performance benefits of ESG, institutional
investors have to have the capability to first include ESG
factors in investment decision-making. And this will mean that
they have to be able to take a long-term investment
perspective; that they have to be able to execute these
strategies in-house or work creatively with external managers.
And, as the PRI now recognizes, many institutional investors do
not have that capability, and the PRI wants to change that.
Heres another blurb:
There are barriers
found in current market practices, structures and regulation
that undermine the interests of investors and the systems
within which they operate. These factors, which include
significant dimensions of the behaviour of both asset owners
and investment managers, impede the integration of ESG
considerations into investment processes and ownership
practices, and in most cases they are not addressed directly by
PRIs current work.
True. So whats the PRI
going to do about it? Well, it hopes to...
approaches to designing investment mandates, including
benchmarks, performance periods, portfolio turnover and fee
structures... [and] at a higher level than the structure of
individual mandates, decisions about portfolio structure and
strategic asset allocation set the framework for all other
investment decisions. The financial crisis has sparked profound
questioning of traditional approaches based on modern portfolio
theory and diversification.
In short, PRI appears to be
interested in improving the operations of institutional
investors. They (rightly) see that one of the biggest
impediments to long-term, sustainable investment is
the institutional investors' own inadequate capabilities. And
so they're joining the fight to improve the operations of these
funds. Im very pleased to have them on the team.