ESG integration becomes a blurry differentiator as managers rally to the herd

It is no secret that winning a Nordic mandate requires asset managers to demonstrate a systematic incorporation of ESG factors to reduce risk and create a long-term alpha source. In the past weeks, major investment managers have visited Copenhagen promoting initiatives in line with Nordic institutions’ current demand. However, with managers all running in the same direction and no universal formula, diversification is a must to stand out from the herd.
From left top PIMCO's Portfolio Manager Lupin Rahman, Amundi's Chief Responsible Investment Officer Stanislas Pottier, Schroders' Head of Sustainable Research and AXA Investment Managers' Global Head of Impact and Responsible Investment Matt Christensen. | Photo: PR: PIMCO, Amundi, Schroders & AXA Investment Managers
From left top PIMCO's Portfolio Manager Lupin Rahman, Amundi's Chief Responsible Investment Officer Stanislas Pottier, Schroders' Head of Sustainable Research and AXA Investment Managers' Global Head of Impact and Responsible Investment Matt Christensen. | Photo: PR: PIMCO, Amundi, Schroders & AXA Investment Managers

Herd mentality is one of the most predominant, and most frequently occurring, psychological phenomena in the asset management industry.

In this context, the herd mentality refers to the tendency of managers to mimic the actions of a larger group, even if those actions are irrational, such as the industry-wide hunt for IT stocks in the late 1990s, which took place without fundamental analyses to back up individual security selections, or the craving for mortgage-backed securities in the period leading up to the financial crisis of 2008.

However, herd mentality per se is not necessarily a negative feature. Many asset management actions can be rationally mimicked. During the 1980s, Harvard, Yale and Princeton's endowment funds began to boost exposure to alternative assets, especially the illiquid asset classes. Yale, for instance, reduced its listed equity exposure from 60 percent in 1980 to 20 percent in the mid 1990s, while the endowment funds' exposure to private equity surged from less than 5 percent to over 20 percent.

In the past decade, Nordic institutions have made similar portfolio changes, and it is not uncommon for a Nordic pension fund to expose 20 percent of its asset pool to infrastructure, structured credit and other asset classes, offering a different return and risk profile than listed equities and government bonds.

No universal formula

Another, and even more predominant, example of everybody running in the same direction is the increased integration of environmental, social and corporate governance factors as a performance enhancer and the higher number of investments with an additional purpose other than financial return. Sustainability has indeed become the holy grail of asset management.

The use of ESG metrics was a niche activity a decade ago, but issues ranging from climate change to executive remuneration and gender pay gaps have accelerated the integration of ESG into investment portfolios, Financial Times recently wrote.

The financial daily cites a survey by MSCI's annual investment conference in London, according to which the audience of asset managers and pension funds expected the share of assets aligned with ESG policy to more than double from the current 25 percent to between 50 and 65 percent in the next five years.

Another recent survey from Natixis Investment Managers, one of Europe's largest asset management groups, reveals that six out of ten professional investors recognize that ESG investing can prove profitable, while two thirds of institutional investors claim that ESG will become the industry standard within the next five years.

However, global development is one thing, the Nordic pond is quite another, as the region is widely recognized as global pioneers when it comes to investments with more purpose than pure, financial gain. Global asset managers know they will not win any mandates in the Nordics if they cannot demonstrate systematic ESG integration into their investment processes.

As sustainable investment has become the holy grail of asset management, the actual integration of environmental, social and corporate governance factors into investment processes would have been much easier if a universal, acclaimed formula were developed.

It has not, and instead, all asset managers develop, integrate and apply their own methods and techniques in an attempt to beat the competition.

Promoting ESG initiatives 

In the past few weeks, AMWatch met some of the world's biggest money managers to question them about their journey to the holy trinity. One is Amundi, Europe's largest asset management group by AUM. Its Chief Responsible Investment Officer Stanislas Pottier announced in October that all assets under management must be above an average ESG metric by 2021.

"We have set an ambitious target, and I don't think we will fail," he explains to AMWatch in Copenhagen. However, when asked whether failure to meet the target will have any consequences, he says: "We have not committed to any figures, but there's a big engagement from our CEO and overall management to achieve this. Our goal is to make sure that the philosophy of Amundi is implemented across our entire organization from our executive management and board of directors to portfolio managers."

At UK-based asset management group Schroders, a newly-launched risk assessment tool named SustainEx aims to assist its fund managers, analysts and clients to identify how growing costs and external pressures from social and environmental factors will impact future earnings.

In an attempt to simplify the risk tool's purpose, Schroders’ Head of Sustainable Research Andrew Howard explains: "Imagine a company, it could be a producer of alcoholic beverages, was handed an extra bill at the end of the year for all the negative impact its products had on society in terms of additional health expenditures and carbon emissions. SustainEx aims to assess how big this bill is expected to be, and how it will affect the company’s profitability,” he says, adding: “SustainEx thereby assists fund managers in identifying companies that are better prepared for the future than their competition."

As for the future, there's industry consensus to apply the 17 UN Sustainable Development Goals framework in investment strategies, and this tendency is likely to continue for many years going forward. In credit investing, SDGs are undoubtedly pivotal. One of the world's largest bond investors, PIMCO, assists issuers in issuing bonds aligned with SDGs, which is often claimed to require investments worth USD 2.5trn.

"The SDGs provide a global recognized framework, and we want to shape the bonds coming into the market," says PIMCO Portfolio Manager Lupin Rahman by the phone, adding: "Due to our size, we meet with syndicates to reach an agreement on how to bring SDG bonds to the market, anchor with investors and shape the bond's payment structure."

Last year, AMWatch quizzed Senior Portfolio Manager Investment Grade Credit Jan Willem de Moor at Dutch asset manager Robeco about his recently launched SDG strategy. Developing the strategy was harder than expected, he admitted.

Another dedicated SDG strategy was launched in Copenhagen, when the Danish government in collaboration with several domestic pension funds launched a fund, mixing public and private finance to support companies across Africa, Asia and Latin America.

Unlike the SDG goals, which include mitigating climate change, improving workplace diversity and ending poverty, the overall objective of ESG integration is to reduce financial risk, creating a long-term source of alpha generation – especially in case a tsunami of regulation hits an industry, or markets turn sour.

France-based AXA Investment Managers holds a quarterly committee meeting to discuss holdings in its portfolios based on ESG metrics obtained from three third party vendors: MSCI, Sustainalytics, and Vigeo Eiris, explains AXA Investment Managers Global Head of Impact and Responsible Investment Matt Christensen.

"If we have a company with a low ESG score compared to its peers, the portfolio manager in charge has to have a really good reason for keeping the company on board. If the fund manager doesn't have that, we divest the company from our holdings," he says.

AXA CIO for Mediterranean & Latin American Region Erik Decker adds that AXA and the asset management industry in general, are still in the ESG trend’s early stages, as the concept continues to mature driven by consumers, regulators and demand.

Over the next two weeks, AMWatch will dig one page deeper into Amundi, Schroders, AXA Investment Managers and PIMCO to understand how these companies differentiate in terms of sustainability.

Impact investing next

After this series, AMWatch will move on to research best practices in impact investing. On 18 June, AMWatch is a partner at the NORDIC INVESTMENT FORUM, a conference on impact investing presenting speakers from BlackRock, LGT Capital Partners, Bridgespan, and Triodos Investment Management, and more, trying to answer questions, including:

  • Why should large institutions embrace impact investing?
  • How is impact investing different from ESG?
  • How to measure and benchmark impact strategies?
  • …and much more.

Sustainability "grand old man" calls for action: Investors don't fulfill their own ambitions

From niche to mainstream, responsible investments could be coming of age

Norwegian oil fund opposes outcome-based UN SDG reporting 

Robeco puts in long hours to get new SDG strategy right


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