On trend

Wealth managers and other intermediaries have a new responsibility to their clients from this year onwards. From 2021, they are obliged to ask clients about their environmental, social and governance (ESG) preferences as well as their attitude to risk and return. And that looks set to further accelerate the already substantial flow of cash into assets with an ESG tilt.

In this context, a new report from the investment company team at Numis makes fascinating reading. “We believe the investment company sector is a rich hunting ground for ESG investors,” Numis’s analysts conclude.

That might come as something of a surprise to those who have criticised the sector as being behind the curve on ESG. Last year saw several commentators complain that there weren’t enough ESG-specific investment companies, or point to the rapid roll-out of new ESG funds in the open-ended fund sector.

Such criticism is wide of the mark. As Numis points out, there are already a range of investment companies that offer ESG investors interesting opportunities. These include a dozen funds that invest in renewable energy, the growing number of infrastructure funds with holdings in social projects, and several funds that finance the building of social housing. New vehicles continue to arrive – the new Schroder BSC Social Impact fund, for example, takes the investment company sector into the impact investing arena.

Moreover, in addition to these explicitly responsible investment funds, the broader investment companies sector continues to explore its ESG responsibilities. In some cases, we are seeing managers acknowledge the need to incorporate ESG factors into their decision-making process, given that investments in less sustainable businesses and sectors now look likely to underperform.

Numis points to Odyssean Investment Trust, which has formally incorporated ESG into its investment policy, but many other funds are taking a similar approach informally as a normal part of their asset allocation and stock picking. Why wouldn’t you seek to avoid holdings where, for example, regulatory sanction, policy disincentive or reputational damage are potential drags on performance?

In addition, investment companies are working hard to improve the quality of their ESG disclosure and reporting. A number of funds and fund management groups now publish detailed impact reports, providing a deep dive on their underlying holdings from an ESG perspective. For intermediaries and investors seeking greater detail in this area, whether in ESG-specific funds or not, this is invaluable.

There is plenty more work to do. In particular, Numis points to the shortcomings of the various ESG ratings that data providers apply to investment companies. While benchmarks such as Morningstar’s Sustainability Rating and Refinitiv’s ESG Rating give intermediaries and investors a place to start, the investment company industry needs to collaborate more closely with such providers in order to refine what is available. For now, these ratings remain a blunt instrument.

Nevertheless, the investment company sector is in a strong position on ESG – and well-placed to capitalise on the growing demand for sustainable and responsible investment. And for intermediaries charged with developing a greater understanding of their clients’ views and preferences on ESG issues, the sector offers an opportunity to put this new knowledge into practice.