The customer is always right
01 September 2020
Responsible investing has captured the collective minds of the industry and many want to be seen as market leaders in this arena, but who is really driving ESG?
Image: gustavofrazao/stock.adobe.com
The clamour of market participants seeking to promote their latest credentials in the environmental, social and governance (ESG) arms race is reaching fever pitch. In such a maelstrom it is difficult to figure out who is driving the momentum. Is it banks? Regulators? The man on the street? All of them? None?
Hardly a day goes by without an announcement that a firm has signed up to a new environmentally-friendly set of investment standards or committed to hitting a diversity target. This, in turn, has given rise to accusations of greenwashing — a term used to describe firms that loudly over-embellish their pious ways and downplay the additional commercial benefits.
Although cynics may see the rise of ESG among the sell side in particular as simply a useful gimmick to capture positive attention, to claim that greenwashing is prolific would make light of the genuine sea-change occurring in the way investors and their service providers up and down the spectrum value assets.
That said, there’s no smoke without fire and what the debate around genuine versus opportunistic ESG adoption does acknowledge is that it’s driven by customer demand. In the case of agent lenders, that means beneficial owners — primarily pension funds.
Pension funds are widely seen as the most progressive of the buy-side community and many examples exist — and have been covered by this magazine — of them expressing ESG-principles through their investment decisions. This is turn has encouraged banks to pivot towards providing new tools and services that meet this demand from their existing and potential clients.
However, this shift by banks goes well beyond changing their Twitter logo to a rainbow during Pride Week or getting staff members to pose for a flattering photo-op during a charity food drive. Today, banks are willing to take on additional burdens and costs in order to meet the challenge set by their new, ethically-conscious client base. Let’s look at one case study, selected from among many worthy examples.
Earlier this month Northern Trust has unveiled the latest addition to its ESG risk exposure analytics capabilities, which includes a new reporting tool for key environmental data categories.
The enhancement allows Northern Trust’s clients — typically asset owners such as pension funds — to interrogate specific environmental risk indicators for their investments, including those in their securities lending programmes.
The release is part of Northern Trust’s new ‘ESG Insights’ product suite. It complements the ESG Insights: Ratings Summary report, launched in April, which provides investors with periodic snapshot analysis across a range of ESG factors.
“This is a new product launch that we are currently working closely with a number of our clients to implement for them,” says Serge Boccassini, global product and market development, Americas and Asia Pacific at Northern Trust.
Boccassini explains that the majority of those clients are pension funds, as they face “increased focus from regulators and stakeholders to improve governance and oversight of potential long-term financial risks”.
This is an interesting point as it indicates that pension funds and other buy side members are themselves driven into the arms of ESG by a need to impress their underlying clients and comply with new regulations.
In fact, in explaining the uses of its new ESG tool, Northern Trust says that institutions can “use the resulting information to engage with asset managers and stakeholders around the environmental impact of their investment portfolio, as well as to generate data and analytics for publishing in their annual disclosures”. Everybody has a customer, it seems, and that customer’s wishes must be met. But, it’s not even that simple.
My client’s client
Speaking to SLT earlier this month David Hickey, who leads the ESG strategy of Lothian Pension Fund, a client of Northern Trust, outlined how, as well as regulators and underlying investors, pressure group also seek to influence stock picking.
“There are pressure groups for lots of areas and there’s a risk that you can say “yes” to everything and risk being left with literally nothing to invest it, Hickey explains. “We’ve taken the stance that there are certain areas that are now commonly understood as being not acceptable and we’ve created our ESG policy along those lines.”
As part of Lothian’s ESG drive, it worked with Northern Trust to create an automatic recall service for its securities lending programme. This served to satisfy its need to apply its full voting strength as an asset owner but still make some revenue from lending.
The recall service is another example of banks adapting to keep clients on board, especially when it comes to securities lending, which is still often seen as a value-add service that can be sacrificed on the altar of ESG.
“While we had to sacrifice an element of our returns, we could have lost all of it if we had to withdraw from securities lending entirely, which was a possibility,” explains Hickey. “Although new facilities like ours will undoubtedly cause more work for agent lenders, it may also lead to more beneficial owners entering the lending market as these tools will allow them to juggle their ESG responsibilities and lending, much like it allows us to do.”
ESG from on high
As well as arming beneficial owners with client-wooing data, Northern Trust’s says its bolstered ESG Suite also ensures firms are satisfying “ever-increasing regulatory requirements”.
There are many ESG-related doctrines that an asset manager can subscribe to. These range from the principles for sustainable securities lending, which is promoted by the International Securities Lending’s Council for Sustainable Finance, all the way through to the Paris Agreement on climate change led by the United Nations. But, these are voluntary rules frameworks, aren’t they?
In the UK, a new pensions bill has nearly made its way through the two-tier parliamentary system that may make the adoption of ESG principles mandatory all but name. On 16 July the bill passed its first reading in the House of Commons meaning it has already navigated several rounds of scrutiny in the House of Lords and is on track to become law. It is expected to be presented for its second of three readings in the Commons shortly.
It is a comprehensive document but was made more potent in February when the House of Lords voted in favour of amendments that will compel pension funds to disclose how well they are aligned with the aforementioned Paris Agreement.
Tim Smith, of Herbert Smith Freehills, explains that this will be achieved through the introduction of pensions dashboards to allow people to access their information from most pensions schemes in one place online for the first time.
At the same time, the bill will include regulations to set out circumstances under which a pension scheme member will have the right to transfer their pension savings to another scheme. Whether dislike of your scheme’s investments in oil or fracking will be among those reasons is yet to be seen but it is certainly a sobering thought for affected fund managers. Once such information is made available, public pension funds, in particular, will undoubtedly be named and shamed in the media and by pressure groups if their portfolio contains any undesirables.
As the global adoption of ESG reaches dizzying speeds, compounded by regulatory-mandated transparency initiatives, any supposed greenwashing is set to be stripped away and all members of the securities finance industry will be forced to put their money where their mouth is or risk being exposed and shunned by potential clients. Squeezed by the retail market below and the regulators from above, resisting or feigning in your commitment to ESG will soon be untenable.
Hardly a day goes by without an announcement that a firm has signed up to a new environmentally-friendly set of investment standards or committed to hitting a diversity target. This, in turn, has given rise to accusations of greenwashing — a term used to describe firms that loudly over-embellish their pious ways and downplay the additional commercial benefits.
Although cynics may see the rise of ESG among the sell side in particular as simply a useful gimmick to capture positive attention, to claim that greenwashing is prolific would make light of the genuine sea-change occurring in the way investors and their service providers up and down the spectrum value assets.
That said, there’s no smoke without fire and what the debate around genuine versus opportunistic ESG adoption does acknowledge is that it’s driven by customer demand. In the case of agent lenders, that means beneficial owners — primarily pension funds.
Pension funds are widely seen as the most progressive of the buy-side community and many examples exist — and have been covered by this magazine — of them expressing ESG-principles through their investment decisions. This is turn has encouraged banks to pivot towards providing new tools and services that meet this demand from their existing and potential clients.
However, this shift by banks goes well beyond changing their Twitter logo to a rainbow during Pride Week or getting staff members to pose for a flattering photo-op during a charity food drive. Today, banks are willing to take on additional burdens and costs in order to meet the challenge set by their new, ethically-conscious client base. Let’s look at one case study, selected from among many worthy examples.
Earlier this month Northern Trust has unveiled the latest addition to its ESG risk exposure analytics capabilities, which includes a new reporting tool for key environmental data categories.
The enhancement allows Northern Trust’s clients — typically asset owners such as pension funds — to interrogate specific environmental risk indicators for their investments, including those in their securities lending programmes.
The release is part of Northern Trust’s new ‘ESG Insights’ product suite. It complements the ESG Insights: Ratings Summary report, launched in April, which provides investors with periodic snapshot analysis across a range of ESG factors.
“This is a new product launch that we are currently working closely with a number of our clients to implement for them,” says Serge Boccassini, global product and market development, Americas and Asia Pacific at Northern Trust.
Boccassini explains that the majority of those clients are pension funds, as they face “increased focus from regulators and stakeholders to improve governance and oversight of potential long-term financial risks”.
This is an interesting point as it indicates that pension funds and other buy side members are themselves driven into the arms of ESG by a need to impress their underlying clients and comply with new regulations.
In fact, in explaining the uses of its new ESG tool, Northern Trust says that institutions can “use the resulting information to engage with asset managers and stakeholders around the environmental impact of their investment portfolio, as well as to generate data and analytics for publishing in their annual disclosures”. Everybody has a customer, it seems, and that customer’s wishes must be met. But, it’s not even that simple.
My client’s client
Speaking to SLT earlier this month David Hickey, who leads the ESG strategy of Lothian Pension Fund, a client of Northern Trust, outlined how, as well as regulators and underlying investors, pressure group also seek to influence stock picking.
“There are pressure groups for lots of areas and there’s a risk that you can say “yes” to everything and risk being left with literally nothing to invest it, Hickey explains. “We’ve taken the stance that there are certain areas that are now commonly understood as being not acceptable and we’ve created our ESG policy along those lines.”
As part of Lothian’s ESG drive, it worked with Northern Trust to create an automatic recall service for its securities lending programme. This served to satisfy its need to apply its full voting strength as an asset owner but still make some revenue from lending.
The recall service is another example of banks adapting to keep clients on board, especially when it comes to securities lending, which is still often seen as a value-add service that can be sacrificed on the altar of ESG.
“While we had to sacrifice an element of our returns, we could have lost all of it if we had to withdraw from securities lending entirely, which was a possibility,” explains Hickey. “Although new facilities like ours will undoubtedly cause more work for agent lenders, it may also lead to more beneficial owners entering the lending market as these tools will allow them to juggle their ESG responsibilities and lending, much like it allows us to do.”
ESG from on high
As well as arming beneficial owners with client-wooing data, Northern Trust’s says its bolstered ESG Suite also ensures firms are satisfying “ever-increasing regulatory requirements”.
There are many ESG-related doctrines that an asset manager can subscribe to. These range from the principles for sustainable securities lending, which is promoted by the International Securities Lending’s Council for Sustainable Finance, all the way through to the Paris Agreement on climate change led by the United Nations. But, these are voluntary rules frameworks, aren’t they?
In the UK, a new pensions bill has nearly made its way through the two-tier parliamentary system that may make the adoption of ESG principles mandatory all but name. On 16 July the bill passed its first reading in the House of Commons meaning it has already navigated several rounds of scrutiny in the House of Lords and is on track to become law. It is expected to be presented for its second of three readings in the Commons shortly.
It is a comprehensive document but was made more potent in February when the House of Lords voted in favour of amendments that will compel pension funds to disclose how well they are aligned with the aforementioned Paris Agreement.
Tim Smith, of Herbert Smith Freehills, explains that this will be achieved through the introduction of pensions dashboards to allow people to access their information from most pensions schemes in one place online for the first time.
At the same time, the bill will include regulations to set out circumstances under which a pension scheme member will have the right to transfer their pension savings to another scheme. Whether dislike of your scheme’s investments in oil or fracking will be among those reasons is yet to be seen but it is certainly a sobering thought for affected fund managers. Once such information is made available, public pension funds, in particular, will undoubtedly be named and shamed in the media and by pressure groups if their portfolio contains any undesirables.
As the global adoption of ESG reaches dizzying speeds, compounded by regulatory-mandated transparency initiatives, any supposed greenwashing is set to be stripped away and all members of the securities finance industry will be forced to put their money where their mouth is or risk being exposed and shunned by potential clients. Squeezed by the retail market below and the regulators from above, resisting or feigning in your commitment to ESG will soon be untenable.
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