Investors Are Letting Asset Managers Define ESG — and the Industry Is Happy to Oblige

Sixty-three percent of institutional investor respondents said they’re “just getting started” in their overall ESG efforts, according to a Chestnut Advisory Group survey.

Tomohiro Ohsumi/Bloomberg

Tomohiro Ohsumi/Bloomberg

For better or worse, institutional investors tend to rely on asset managers when it comes to environmental, social, and governance practices. Some managers are jumping on the opportunity to grow their businesses.

In a study from Chestnut Advisory Group, a boutique growth strategy consultant with a focus on asset managers and outsourced chief investment officers (OCIOs), CEO Amanda Tepper wrote that while ESG is a hot-button issue in the investment world, managers and asset owners are left to their own devices when it comes to crafting and implementing specific philosophies. Despite the potential confusion, however, asset managers and consultants understand the value of ESG integration: In a survey of over 450 professionals, including asset managers, institutional investors, consultants, and wealth advisors, 40 percent of asset managers and 32 percent of consultants said ESG and DEI (diversity, equity, and inclusion) efforts have a high impact on their asset flows.

It’s not surprising that asset managers are taking the lead, as they appear well ahead of investors in their thinking. Sixty-three percent of institutional investor respondents say they’re “just getting started” in their overall ESG efforts, while only 13 percent of asset managers said the same. “That means [that institutional investors] are relying on whatever it is the asset managers are doing to address ESG. They’re not doing it themselves,” Tepper told Institutional Investor.

Tepper cited another survey in which 17 percent of institutional investors who have a specific asset allocation to ESG and use OCIOs said that the availability of ESG advisory services was one of the top two factors motivating their OCIO hiring decision. “[Institutional investors] are very reliant on the asset managers and consultants, as they’ve always been,” she said. “It’s asset managers and consultants who have come up with different investment styles over time — they’ve invented different asset classes, different allocation approaches, different risk management approaches. It always comes from asset managers and consultants [before it gets] to the actual end investors.”

Asset owners are also notoriously slower than asset managers when it comes to adopting ESG practices, as II previously reported. Tepper said that this is largely due to the fact that asset managers have actual mandates, rules, and regulations that they’re required to follow, while institutional investors don’t fall under the same level of scrutiny. “The asset managers are complying with these mandates in real time. There’s no mandate or rule for what institutional investors have to do,” Tepper said. “There are a lot of rules coming out for what asset managers have to do.”

Tepper said that institutional investors — like endowments and foundations — are asking questions about carbon neutral investments and DEI policies, and the people they turn to are asset managers and consultants. For this reason, Tepper argues that asset managers have a responsibility to educate investors on ESG. But she also says that managers should use this opportunity to carve out an ESG niche for themselves. “Over time we expect [that] managers who are viewed as among the smartest on ESG issues will gain an edge over their competitors with investors who value their ESG expertise,” Tepper wrote.

With heightened expectations of competition, Tepper said it’s important that asset managers and consultants who are interested in becoming a source of ESG information and knowledge develop ESG philosophies that align with and are specific to the goals of their firm.

For example, Tepper said that one asset manager might develop an ESG philosophy that views ESG as a risk-mitigation tool, while another might choose to place a greater emphasis on the impact of social issues — the “S” in ESG. In other words, institutional investors will eventually invest with an array of managers who have a range of ideas about ESG, just as an investor builds a portfolio with a mix of investment approaches. “It’s going to become the same with ESG,” Tepper said.

Tepper wrote that asset managers, consultants, and OCIOs can take advantage of this future approach to ESG by developing ESG philosophies that are “authentic to [the] firm’s DNA.” She suggested that managers create a plan for how their company’s ESG philosophy is reflected in its decisions and how that translates into its value proposition.