Vienna, February 8, 2019 - “Environment, Social, Governance” – or short, ESG – has developed from a niche topic to a widely-used concept for ensuring long-term business analysis. This, at least, is the opinion advocated by Uwe Diehl, head of the customer business at AXA Investment Managers in Germany. He argues that in order to get a comprehensive picture of any particular enterprise, ESG factors have to come into play. Otherwise, there is the danger that one of the factors, for instance governance, is left out in the business analysis. This, however, Diehl warned, could entail serious economic risks. Also, there is in the meantime increasing regulatory pressure to incorporate ESG factors into entrepreneurial policy in order to ensure the ESG preferences of customers are being met.
Sustainability becomes Mainstream – and more than just a Passing Interest
After all, it is the customer who is behind the growing ESG movement in business. More and more, customers are concerned about the question of how their money is invested. They look more critically at their investment portfolios and demand that their money goes into projects or services that have a beneficial effect on society and the environment or at least not a harmful one. As a consequence, portfolios that meet this need are in high demand.
However, investors would hardly be so enthusiastic about sustainable investment options if there was no or little prospect of adequate financial return. With ESG, this return does not necessarily fall short of the profit generated by conventional portfolios. After all, taking into consideration ESG factors in the investment process can help reduce risks and open up new return options. It has been found that companies with well-established ESG management fare better during times of crises and are thus more profitable in the long term. This insight is expected to have a positive effect on the growth prospects of sustainable investments. Also, regulatory efforts, on the part of the EU, for instance, to make ESG part of the fiduciary responsibility of investment managers, will promote the rise of ESG.
Searching for the Best ESG Approach
There are a variety of different ESG approaches – but there are as yet few standards and guidelines as to which one works best. Clear is that the different approaches are not equally consistent regarding investment motivation and influence of ESG factors on the structure of investment portfolios. In Europe, the largest investment volumes are tied up in strategies where ESG factors do not yet have a significant impact on the portfolio structure. Most widely used are so far strategies that exclude investments in controversial sectors such as weapons and tobacco industry or nuclear energy. However, as controversial industries and enterprises only make up a small fraction of commonly used shares benchmarks and therefore, appliance of ESG strategies to such portfolios only has a very limited effect on the portfolio as such.
However, there are also more comprehensive ESG approaches – for instance the so-called best-in-class approach, which has a much greater impact on the portfolio in question. Here an independent ESG analysis is done in addition to a financial analysis. Only enterprises with a sufficiently high ESG rating are considered for an investment portfolio.
There is also the integrative approach – it takes into consideration ESG aspects in investment decisions in so far as they influence the financial performance of an enterprise. The investments are in portfolios that offer the best mix of ESG. However, in practice there are grave differences between the depth and systematic approach of the analysis.
Thematic strategies have a greater influence on the construction of an investment portfolio. Here, investment is channelled into enterprises that offer products and services that provide solutions for a sustainable development. The assumption is that these enterprises have a better than average financial development in the long run.
Impact investing is another investment form targeted at finding solutions for sustainable development. However, here, the ecological, social and ethical targets take precedence before financial benefit. The effect on the portfolio construction is accordingly high.
Uwe Diehl from AXA Investment Managers explains the multi-faceted approach of his company – AXA applies ESG filters to all its investment portfolios and funds. ESGs are integrated in various ways and depths – from simply excluding certain issues in the investment strategies to best-in-class ESG filters and impact investing approaches aimed at generating a positive effect on society and environment.
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