There’s a mantra institutional investors tend to recite when asked to test new waters: “Our consultant won’t let us.” But when it comes to incorporating environmental, social and governance (ESG) criteria into a client’s investment portfolio, are consultants standing in the way? Or, are they simply following the lead of uninterested investors?
“The answers are nuanced, and maybe that’s the change I’ve seen,” says Kirsten Spalding, director of the investor program at Boston-based nonprofit Ceres, which surveyed consultants five years ago. Back then, she says, the conventional wisdom on consultants was, “They don’t know anything, they’re blocking progress, they’re naysayers — and that’s no longer true. We are seeing incremental changes.”
Much of that change has come in response to investor demand, though that demand has been uneven — widespread in Europe and Australia while largely limited in the U.S. to certain public pensions, aand the faith-based organizations and foundations that have long considered various ESG factors to be part of their investment strategy. Consultants with large global or endowment and foundation client bases tend to be further ahead in the ESG integration game. Progress is most apparent when it comes to choosing asset managers, helped by the fact that investment management firms themselves have begun building ESG expertise and adding or broadening product lines, making implementation easier.
All told, some 29 percent of U.S.-based asset owners incorporate ESG risk factors into their investment decision making, according to a Callan Associates survey published in November of 240 asset owners representing a combined $2.4 trillion in assets. That’s up from 22 percent in 2013. These results illustrate the argument made by consultants: Most mainstream U.S. investors still don’t consider ESG integration a priority. Many corporate defined benefit plans — nearly universally frozen at this point — and public pensions have small staffs and funding problems. Following the 2008–’09 financial crisis, many were fighting simply to stay alive. “We really just had bigger fish to fry for a number of years during and following the recession,” says Hilary Wiek, head of global equity at asset management consulting firm Segal Rogerscasey in Darien, Connecticut. “A lot of clients just haven’t been that interested.”
Those who believe in ESG investing’s positive effect on returns would counter that these are exactly the clients that need consultants to take the lead on ESG integration.
“This is the chicken-and-egg thing I often hear, that consultants would spend more time on this here in the U.S. if their clients were demanding it,” says Jack Ehnes, CEO of California State Teachers’ Retirement System. “In my mind, that’s why we pay consultant fees: to bring creative thinking into our strategies. In the U.S., the consultant community is such an important partner to institutional investors, and so many of our funds rely on external management and don’t have large investment staffs.”
Evidence has been mounting for decades that integrating ESG into traditional portfolio analysis can boost returns, though obviously these factors affect different companies, sectors and asset classes to varying degrees. The latest research, a comprehensive evaluation by Deutsche Asset Management and the University of Hamburg, looked at data from more than 2,000 individual ESG studies dating back as far as 1970. Published in a December 2015 report called ESG & Corporate Financial Performance: Mapping the Global Landscape , the research found that 62.6 percent of the studies showed a positive correlation between ESG and returns, whereas 10 percent found a negative correlation.
“When we talk about responsible investment, we talk about it from the point of view of being a long-term investor. When you’re a long-term investor, ESG factors are material to your investment returns,” says Fiona Reynolds, managing director of the United Nations–supported Principles for Responsible Investment, a global network for investors committed to integrating ESG considerations into their investment practices and ownership policies. “It’s all about returns.”
Changing the conversation, making ESG about doing well rather than doing good, has made the shift the industry has seen over the past few years possible. But entering new territory creates discomfort, and consultants and investors alike often find it easier to follow the herd, making change slow.
At this point, consultants say, it’s still often more about education than implementation. “The consulting industry in the U.S. is about in line with clients,” says Andrew Junkin, president of Wilshire Consulting in Santa Monica, California. “To be fair, let me put that another way: We’re not leading the way right now as an industry. For our firm, we’re definitely trying to get up that curve and get into more of a leadership position.”
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