FinExtra, Jamie Crawley, Reporter, 14 September 2020
Several assertions are made about sustainable investing – how reliable returns are, how complicated it is, how viable it is in a challenging economic environment and so on.
Richard Peers, founder of Responsible Risk and Finextra Research contributing editor, has been discussing these claims with industry experts, to tackle some of the oft-heard complaints surrounding sustainable investing.
This series of articles will combine these insights and opinions of experts in this space to separate the myths from reality.
1) Claim: “It’s good for values but not value”
There is a belief that sustainable investing is useful for demonstrating that your business is committed to tackling the world’s challenges, but not much else. There is not much profit to be had doing good, essentially.
A study by the Global Alliance for Banking on Values (GABV) found that ethical banks grounded in the real economy outperformed their non-ethical counterparts. Looking between 2010 and 2016, value-based banks (VBBs) had a better return on assets than globally systemically important banks (GSIBs), with less volatility to boot.
Lending also accounted for 75% of VBBs balance sheets compared to 40% of GSIBs’, pointing to the volume of demand for borrowing to meet sustainable goals. This equates to more than 60 financial institutions globally, collectively holding over $210 billion USD of combined AUM.
Bevis Watts CEO of Triodos Bank UK says: “Banks should make a values case and publish every loan and investment to their customers, explaining why these investments are in their best interest, and see what they say.”
Reality: The assets of banks that prioritise values as well as value performed better than those of the world’s banking giants.
2) Claim: “There is no data to do proper ESG reporting”
While it may be true that traditional financial data does not necessarily pick up ESG risks and opportunities, there is data available if one is willing to look for it.
Martina McPherson, senior vice president of ESG engagement at Moody’s, recently told Finextra of the importance of alternative data of the like used by hedge fund managers and venture capitalists that is not generally found in traditional financial data.
Alternative data would, according to McPherson, “create real-time inputs and triage real-time information to provide the past, present and forward-looking perspective”.
A similar point has been argued by Christophe Chrisiaen of Digital Catapult, who says that any financial institution serious about demonstrating sustainability credentials can find the data needed “with just a little bit of extra effort”.
On the environmental side, for example, there is a lot of high-quality data available through public bodies and regulators, which is becoming increasingly accessible and affordable on online platforms. Nick Wise CEO Ocean Mind spoke of the Climate Trace Coalition as an example, to monitor every human generated source of greenhouse gas emissions in near real time.
Furthermore, for institutions that make their desire for this type of data clear, there is no shortage of entrepreneurs who would be keen to build solutions that can provide it.
Reality: Data is available, just not necessarily the type of data companies are accustomed to using. This can be accessed if the extra effort is made. The EU Taxonomy is doing a good job in showing alternative data suppliers what format they need to make their available in, which will make these sources a reporting staple.
3) Claim: “It’s too expensive to monitor green instruments”
The cost of monitoring the ‘greenness’ of instruments like bonds and the use of proceeds should be thought of as a different form of credit risk, which institutions naturally do already.
Bevis Watts claims that the cost of not doing anything will be far worse than doing something, as climate and biodiversity-related losses could be devastating to banks, a point that the Bank of England has made previously.
The world is creating a planetary computer or ‘digital twin’ and becoming real time. Banks that rely on annual disclosures to calculate risk and monitor use of proceeds will have greater costs as they lose touch with dynamic changes and be outcompeted by those who have access to real-time data.
The BlackRock letter was one of the first calls saying this data is required in the future for investments, the detail of how to account for these risks can now be achieved with standards like PCAF.
Catastrophe risk modelling has been used in the Insurance Industry for years using techniques that could be used in thisdomain.
Reality: It could be even more expensive not to be monitoring changes in the world’s environment and ecosystems and we now know how to do it cost effectively.
4) Claim: “We need one standardised data set in a European central repository so that we can benchmark companies etc”
This claim sounds more like an excuse when no standardisation of data has ever existed in any other area of asset class but has never proved a problem.
“Waiting for detailed standards is counterproductive, so the approach of firms like Earth Knowledge to predict the effects of climate change on assets is a good one – show that there is data and let people begin consuming it,” says Nick Wise, CEO of Ocean Mind. “Various groups will go their own way until it reaches a scale that forces them back together.” he continues.
The market will produce standards when it is ready. Until then, arguments that it is too hard without standards just indicate that those companies are not interested enough and will wait to see further proof. Such companies will not gain the early-adopter edge.
Reality: We do not need one database. Institutions seeking to differentiate themselves in the market should not let this stop them in sustainable investment, just as it never has before in other areas of investment. Diversity of data is a strength and there are more sources than ever before. Standardised reporting and traceability of the data source is where the focus should be.
5) Claim: “Exclusions of stocks doesn’t work”
Companies may wish to pursue sustainable investing as a means of sucking capital away from brown industries, but some believe this is simply not bringing about change. Bevis Watts disagrees.
“Excluding stocks shifts the costs of capital, making it harder to access capital and thus more expensive for negative stocks,” he says.
A less radical approach is the transition pathway initiative (TPI) set up by a group of pension funds, in which investors collaboratively encourage companies in high-carbon sectors to take steps based on TCFD data points and “make changes to go up the staircase”, as David Harris, head of sustainable business at the London Stock Exchange describes it.
Harris cites the Church of England pension fund as a leader in this, which has moved its developed market equity assets into an index which overweights and underweights companies based on TPI.
We tend to see this as an equities issue, but refusing to refinance maturing bonds will be a growing feature according to Mike Clark of Ario Advisory.
Reality: It does work. Companies that do not engage with investors regarding sustainability performance may find it harder to attract cost effective capital, forcing the shift to more sustainable business models.
