Leading the Charge

Nowhere are Environmental, Social and corporate Governance (ESG) and Sustainable Investing (SI) concepts being pursued more vigorously than in the Nordics.

ESG issues and SI are no longer outliers to the portfolio selection and investment processes of asset owners and asset managers.

Such risk mitigation and ethical drivers were previously the domain of smaller wealthy investors or charities who took a passionate interest in the environment or human rights and applied this to their portfolio allocations. Now that major institutions and increasingly younger retail investors are keenly focused on ESG and SI, managers are factoring the concepts into their investment strategies.

A global survey on ESG by BNP Paribas Securities Services, published in May 2017, found that institutional investors have taken note of investor sensitivities, with 79% of 461 respondents saying they incorporate ESG into the investment decision-making process and the majority of these saying they will further shift investing to ESG funds in the next two years. The study also found that 52% of respondents are allocating capital into sustainable investment opportunities such as green bonds, sustainable bonds and thematic funds.

ESG and SI (along with other definitions) are frequently used in the same sentence but there are some significant differences between the two. SI incorporates financial performance with measurable or quantifiable indicators which illustrate material improvements to the environment or society.

This could be evidence of an investment facilitating a reduction in carbon footprint in an emerging market, or helping drive up education rates among a disadvantaged societal grouping.
ESG describes factors that investors can explicitly acknowledge and integrate into the investment process such as carbon emissions, human rights and board structure.

The Nordic Approach to ESG and SI

The Nordic countries, comprising of Norway, Sweden, Iceland, Denmark and Finland, score highly in social development indicators. Iceland, for example, became the first country in the world to enshrine equal pay for men and women into law. Against this cultural backdrop, it is clear these countries’ major institutional investors are taking issues like ESG and SI seriously.

End clients in the Nordics also want to know that their investments and pension savings are sustainable. This does not just cover environmental sustainability, but broader issues too such as the promotion of equal rights, universal healthcare and education, and efforts to eliminate child labour practices. Institutions in these countries are therefore applying broader screenings to their exposures to ensure they achieve sustainability across the board.

International progress in areas such as climate change have also raised awareness of ESG and SI matters not just in the Nordics but globally. The landmark COP21 agreement in Paris witnessed international agreement on limiting global warming to below 2 degrees Celsius above pre-industrial levels by 2050. Meanwhile, the UN’s Sustainable Development Goals (SDGs) builds on the success of the Millennium Development Goals, but applies to all countries, and will strive to fight poverty and inequality, and tackle climate change.

The Nordics have led the way, with major institutions taking a strong line on climate change and other ESG and SI matters linked to this international consensus. The $860 billion Norwegian oil fund announced in April 2016 that it would divest from 52 companies, which it felt had an excessive reliance on coal. The oil fund also eliminated its exposure to the tobacco sector back in 2010, citing ethical concerns. Regional investors including Swedish pension funds AP1, AP2, AP3 and AP4 have committed to agreements such as the SDGs, and will incorporate the guiding principles into their investment frameworks.

BNP Paribas is a strong supporter of the SDGs’ objectives and recently partnered with the World Bank to issue bonds that link returns to the performance of companies advancing global development priorities set out in the SDGs such as gender equality and healthcare infrastructure.

Targeting Returns with ESG and SI

BNP Paribas’ Global ESG Survey found that nearly three quarters (72%) of respondents believe that ESG enhances investment returns over the long term. At the individual E, S and G pillar levels, when asked which factor has the greatest potential influence on returns, 42% of respondents cited environmental factors, though these along with social factors were seen as the most difficult to assess and incorporate.

Taking the environment into account is key for firms’ long-term strategies. Commodities are finite, and this is something any business with an interest in its own sustainability needs to consider. The risk of investing into a company whose primary revenue driver is a commodity which may be exhausted within a century cannot be disregarded. Again, this is a contributing factor to why certain Nordic investors whose interests are long-term are exiting pollutant industries and sectors, which may not stand the test of time.

The ‘E’ in ESG takes centre strage

Data is today’s challengeGreat expectations for ESG. What's next for asset owners and managers? BNP Paribas, 2017
Great expectations for ESG. What’s next for asset owners and managers? BNP Paribas, 2017

Making Sense of the Data

There are a number of challenges to ESG not least a lack of robust data to work with, which makes it trying to draw definitive conclusions or the ‘so what?’.

However, as new technologies develop, data will become less of a challenge. The survey found that a lack of advanced analytics, having the right products for asset owners, and rising costs are the future barriers.

However, the Nordic industry is sophisticated and recognises these challenges.

Equally, Nordic investors are sensitive to the fact that some managers and corporates have positioned themselves as “green” or “sustainable” for branding and marketing purposes, and will routinely expect evidence backing this up. It also requires investors to collate data identifying how and where their portfolios may be exposed to ESG risk.

In 2016, BNP Paribas Securities Services launched “ESG Risk Analytics”, a tool that permits asset owners to see if their investments are in any way linked to such risks. One thing is certain. The significant growth in interest and activity in ESG for investors means this is a fast-moving field which requires consistent tracking.