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Investing Responsibly

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South African companies are probably ahead of the curve in responsible investment, giving investors the opportunity to support funds that favour sustainability in various areas. lnvestSA looks at current trends.

SOURCE: INVESTSA | AUTHOR: NEESA MOODLEY | DATE: 01/07/2016

Angelique Kalam, manager of Futuregrowth Asset Management's sustainable investment practices, says that, in her opinion, listed South African companies are probably ahead in terms of reporting and the  disclosure of environmental, social and governance (ESG)  issues than their unlisted counterparts.

"That said, unlisted companies (which are larger) have more resources to implement these practices than smaller companies that are in the process of scaling up. Size does matter. As companies become larger and more representative of equity as well as debt stakeholders, there are stricter requirements from stakeholders for more transparent governance. This would include identifying risks and mitigants associated with non-financial issues relating to their business."

According to the Alexander Forbes Targeted Development Investment Manager Watch Survey ending December 2015, there were 10 developmental funds available in South Africa last year. One of the biggest trends right  now  is the emergence of fund-level ESG ratings, which speaks to a shift in the ESG  conversation from institutional investors only  and plants it firmly in the awareness of retail investors. This move has been driven by partnerships that various rating agencies have put in place, according to Old Mutual. For example, MSCI has partnered with Lipper, and Sustainalytics has teamed up with Morningstar.

Jon Duncan, head of sustain ability research and engagement at Old Mutual Investment Group South Africa (Omigsa), says that following the Paris Agreement there is a renewed focus on the green economy, especially on carbon tracking and carbon footprinting. "This is strongly evidenced by the 'divest from coal/reinvest in clean energy' trend that we are seeing across the world  as  asset owners such   as university pension funds, trusts  and churches, strive  to  play  their  part  in refocusing economies on  clean energy production.

Moreover, this spirit of active stewardship maintains a sustained focus, with the rise of beta-engagements, which involves shareholders across industries collaborating and taking action over material ESG-related issues. An excellent example of this is the Aiming for An initiative, in which a coalition of global investors is putting collaborative pressure on the extractive and utility sectors, calling for greater carbon disclosure, with the 'A’ referring to the best score a company can achieve under the Carbon Disclosure Project's (COP's) rating methodology.

An important emergent trend is that as the world starts to favour passive investment, vanilia indexation strategies are giving way to a range of ESG-focused indices in particular, indices that allow investors to be more thematic in their allocations, while also giving them greater visibility in terms of impacts. "For example, investors could opt for an index of emerging market companies that participate in the green economy, which could then be derived using MSCI's sustainability impact metrics," says Duncan.

A change in the model

Integrated reporting is driving  companies to consider, in a more strategic and integrated fashion, the  manner in which their business models contribute or  take away from   the  national stocks of social, human, environmental and manufactured capital. This focus on integrated thinking is certainly driving some leading businesses to be more strategic in their consideration of ESG issues. This is supported by initiatives such as the Sustainable Stock Exchanges and the Sustainability Accounting StandardsBoard (SASB), which provide further stimulus for companies in respect of sustainable management and disclosure. In terms  of local  companies  meeting ESG requirements, Old Mutual says  that  in South Africa the  large caps are doing the  best job, most likely due to the  nature of their  investor base and the  regulatory environment. "But you can't compare companies across sectors as different ESG criteria apply depending on the nature of the business. So the way in which we assess ESG best practice is on a peer-to-peer relative basis, in other words within a sector," adds Duncan.

Omigsa's goal as responsible investment professionals is to embed ESG considerations into the fundamental analysis stage and to drive ESG integration throughout the investment process. "Noting a good ESG rating doesn't simply give the green light to invest, as ESG issues are just one set of Many factors to consider, many of which carry greater weight.

"When we assess a company's ESG standing we use MSCI’s ESG data, as well as a proprietary ESG research overlay.  We are proud to say that in the financial services arena, Old Mutual is AM-rated by MSCI, and this view is supported by our in-house research, which involves a deep dive into ESG critical issues. In the financial services arena, issues include good governance and anti-corruption measures," Duncan from Omigsa explains.

What is an ESG fund?

There are various ways to interpret what an ESG fund is:

  1. ESG is deeply integrated into the investment philosophy. The approach is to consider all material ESG issues across the portfolio’s holdings. This will generally apply to asset managers who use Eesponsible investment principles in their investment processes, with some offering more depth than others.
  2. It could be an analysis or construction approach that tilts the fund on the b as is of ESG criteria
  3. It could be a fund that pursues a positive outcome in respect of the green economy, for example a focus on housing, renewable energy or education

Do investors need more education on responsible investing?

Kalam says that Futuregrowth mainly deals with institutional clients, such as pension funds and corporates who have a good understanding of socially responsible investing. "Some of the more common questions are around earning commercial risk-adjusted return s versus earning below par market returns, liquidity and understanding that SRI (socially responsible investing) can form part of most asset cl asses such as bonds, equity, and property and would fit into a fund's overall asset allocation."

However, Old Mutual notes that the global uptake is not commensurate with the strong social and financial case for impact in vesting. "In      light  of this,  we  believe that there is much scope for education in respect  to  responsible investment, sustainability and impact investing across all financial services stakeholders, including retail and  institutional  investors, asset consultants, trustees, and asset owners and managers," says Duncan.

"In two surveys of around 1000 retail investors and corporate advisers, Old Mutual has found that there is a poor understanding of these issues, and the role that these investments can play in a well-diversified investment portfolio. We are continuing to  build  on these understandings  and are conducting g further responsible investment surveys in South Africa  to understand better the needs if our retail investors in respect of these issues”

Mikhaeel Vawda, of 27four Investment Managers, says one of the issues when it comes to educating investors about responsible investing is the fact that there is still a plethora of jargon in the responsible investing space, which can be confusing to investors. Despite  the  fact that responsible investing is featuring more and more on the agenda of  trustees, they  still have an overwhelming g  l eve l  of  detail to deal  with across all   levels  of  the functioning  of  the fund and often have  little  experience and education.

Looking internationally, although having been in existence for  almost two years now, the  Montreal  Carbon Pledge is  the most recent initiative  undertaken by asset owners whereby they  agree to measure  and disclose the  carbon footprint of  their portfolios.  This requires a much higher level of reporting from both companies and asset managers.

"The California Public Employees’ Retirement System (Calpers), for example, is currently looking at 80 companies it is a shareholder of (out of 11 000) that drive 50 percent of its carbon footprint. It is likely that following the Paris Agreement of December last year asset owners will come under pressure to contribute to the goal of reducing greenhouse gases," says Vawda. Another development has been the increasing issuance of green bonds, which are bonds targeted at providing financing to the development of renewable energy.

With an increasing foreign shareholder base and revenues generated offs h ore, South African companies are part of the global market and, therefore, are readily adopting the same standards as most international companies. "Additionally, exchanges tend to move in unison and require standard disclosure for all listed companies. The information is, however, only useful when properly an analyzed and understood. The companies will happily disclose most of the good information, but it still requires a good analyst to investigate what hasn't been conveyed," concludes Vawda.