September Insight – Key issues for the growth of SRI

Flavia MicilottaEurosif’s Executive Director, Flavia Micilotta, discusses the key issues for the the further growth of the SRI Market with the Portuguese chapter of the WBCSD – the article can be found here (in Portuguese).  A version of this article also appears in the October edition of OMFIF’s Bulletin.

Sustainable and Responsible Investment is becoming increasingly mainstream. Although this might sound like wishful thinking coming from somebody who works in the industry, a cursory reading of the major news in the last 18 months reveals the extent to which terms like sustainability and finance have now become part of our daily conversations.

The 21st UN Climate Change ‘Conference of the Parties’ (COP21), held in Paris last December, ended with the milestone agreement of countries to lower their greenhouse gas emissions enough to keep a global temperature increase well below 2°C this century (relative to pre-industrial levels). The Paris Agreement established a system for measuring the commitments and contribution at country level every five years. An assessment of progress is set for 2018. While it is too early to determine whether the Agreement has been sensibly drafted or if it will deliver on its commitments, what is sure is that it sets the tone for policies and businesses. This has directly resulted in a number of possibilities for investors to contribute to the transition to a more sustainable economy. In this context, the best-case scenario is a race to the top for both investors and companies to contribute to the fight against climate change.

The strongest and most reactive policy push that followed has once again come from France, as the government stimulated the financial community to engage in the fight against climate change, with the adoption of Article 173 of the law on energy transition and green growth. By asking investors to disclose how they factor ESG criteria and carbon-related aspects into their investment policies, this law paves the way for driving investments towards more sustainable patterns.

The “Agreement” also led to a number of investors reconsidering their oil investments; the oil industry being one of the more responsible sectors for climate change. After Mark Carney’s declarations regarding the dubious exploitation possibilities linked to oil reserves, even investors who did not think of themselves as particularly pro-environmental , started reconsidering the viability of investing in oil companies and are now pondering the real costs of the carbon bubble.

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Image by Arnold Paul cropped by Gralo

We have discussed the relevance of policies in bringing about change and the European Commission has so far demonstrated an understanding of the various issues relevant to different stakeholders. The Commission has also given proof of a strong willingness to support this change. Within the last six months, the European Commission has launched two key consultations (from DG FISMA and DG JUST) which looked into how companies can increase their transparency, following up on the new directive on non-financial reporting and how investors can improve their standards in terms of long-term and sustainable investments respectively. Both pieces of the same puzzle, these consultations have sent a strong message about the importance of those ‘intangible’ criteria, which are most often referred to as ESG or rather Environmental, Social and Governance. Embedding ESG criteria into investment analysis and portfolio construction across a range of asset classes is the underlining principle of Sustainable and Responsible Investment. In fact, according to Eurosif’s definition, SRI “is a long-term oriented investment approach which integrates ESG factors in the research, analysis and selection process of securities within an investment portfolio. It combines fundamental analysis and engagement with an evaluation of ESG factors in order to better capture long term returns for investors, and to benefit society by influencing the behaviour of companies.”

In ESG incorporation, investment institutions complement traditional quantitative analysis of financial risks and returns with qualitative and quantitative analyses of ESG policies, performance, practices and impacts.

Asset managers and asset owners can incorporate ESG issues into the investment process in a variety of ways. Some may actively seek to include companies that have stronger ESG policies and practices in their portfolios, or to exclude or avoid companies with poor ESG track records. Others may incorporate ESG factors to benchmark corporations to peers or to identify “best-in-class” investment opportunities based on ESG issues. Still other responsible investors integrate ESG factors into the investment process as part of a wider evaluation of risk and return.

The opening of this article was a bold statement, but a true one. The evidence provided in this short article is meant to give just a brief introduction of the potential that can be harnessed by SRI. Regulators have come a long way to push the industry forward but there is still much that can be done to help SRI become a significant lever to creating more sustainable economies.

Flavia Micilotta

Executive Director Eurosif