It is generally accepted that the finance industry has been lagging behind other industries in terms of adopting sustainability practices. This is particularly true when it comes to product development, one of the most material sustainability issues. Could greater transparency provide an effective mechanism to spur the industry into action? Recent data suggests it might, but also reveals that there is quite a long way to go before most investment can be considered responsible, long-term oriented and therefore sustainable.

Whereas companies in many industries, such as industrial equipment, consumer goods or other manufacturing activities, have made significant efforts over the last few decades to improve their products’ environmental footprint and make them more “responsible,” the finance industry has only recently started to address its role as the main provider of capital and how it could better align its core business activities with long-term societal needs and environmental constraints.

Less than ten years after the launch of the Principle for Responsible Investment (PRI), a welcome push for more transparency may accelerate progress. The PRI signatories, which represent USD 45 trillion of assets under management, are now required to disclose in much greater detail the measures they have taken to incorporate long-term environmental, social and governance issues in their investment activities.

With the introduction of a much more comprehensive reporting framework in 2014, the PRI initiative has not only encouraged greater accountability amongst signatories, it has also enabled more scrutiny throughout the industry. The bulk of the information reported by PRI signatories is now available in the public domain, allowing all stakeholders to take stock of industry practices and to challenge market participants.

At RobecoSAM, we have carried out some preliminary analysis of the data disclosed by asset owners and asset managers[1]. Perhaps not surprisingly, this initial data set suggests that the PRI signatories’ aspirations are clear but that implementation remains a challenge. This disconnect is visible amongst asset owners and asset managers alike.

For instance, in what can be interpreted as a strong signal to the industry, the vast majority of asset owners indicate that they expect their asset managers to integrate environmental, social and governance (ESG) considerations into investment decisions.

Figure 1: ESG Integration is the Preferred Approach

Figure 1: ESG Integration is the Preferred Approach

However, when it comes to appointing external asset managers, few asset owners carry out appropriate due diligence to ensure that their managers are adequately equipped to address ESG systematically and effectively in their investment processes. Less than 50% of asset owners assess the quality and coverage of the ESG research used by asset managers or meet with investment staff to review their competencies with regard to responsible investment. Similarly, less than 15% of them engage with managers on the use of research budgets and how they incentivize brokers to provide long-term views on key environmental and social issues impacting companies under coverage as part of sell-side research.

This data suggests that critical measures to embed sustainability in investment processes are not systematically reviewed when selecting asset managers. The finding is further validated by signatories’ data which indicates that less than 25% of asset owners assign specific weighting to ESG factors in the final asset manager evaluation. Finally, only a handful of asset owners include requirements related to responsible investment into formal contractual agreements with asset managers. So whilst clients are asking for “ESG integration,” this request is rarely made explicit and visible in mandates and asset allocation, making it challenging to achieve meaningful alignment between industry participants.

Meanwhile, the majority of asset managers indicate that they apply “ESG integration” in their investment processes. But looking at their actual investment practices, only a minority report that their investment teams work with raw ESG data.In most asset management firms, it is a team of ESG specialists (either within the asset management firm or at external research providers) which provides a view on companies’ sustainability performance. Additionally, this information is primarily used in the context of assessing corporate strategy and quality of management, and rarely used as an input to “integrated analysis”. In our view, this falls short of meaningful “ESG integration” whereby investment staff in charge of making investment decisions incorporate relevant ESG information into their fundamental analysis and risk assessments.

Figure 2: Few Asset Managers Do Integrated Analysis

Figure 2: Few Asset Managers Do Integrated Analysis

Admittedly, the excessive use of industry jargon (terms such as “responsible investment” and “ESG integration”) has been counterproductive. Beyond the buzzwords, differences in understanding persist. This might partly explain why this initial data set exposes some important discrepancies between aspirations and current practices. However, it also provides an opportunity for all market participants to clarify their investment philosophy and approach with regard to sustainability challenges.

Improved transparency is a first step towards addressing the gaps between ambition and reality. It provides a baseline to identify areas for action and measure progress over time. It increases accountability and creates effective peer pressure amongst industry players. Ultimately, reporting and benchmarking can be effective tools to nudge management teams into addressing issues that might have otherwise remained in their blind spot. However, transparency alone is no panacea. Change needs to be supported by a compelling business case and clear incentives. Together these can bring sustainable change at systemic industry level.

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Cécile Churet is Sustainability Investing Client Specialist at RobecoSAM where she serves as a bridge between institutional clients looking for new ways to integrate financially material ESG factors across all asset classes and the firm’s research and product development activities. 

[1] Source: UNPRI data and RobecoSAM analysis