Shifting to sustainability

As the world begins to ponder life after lockdown, one question on the minds of many businesses is whether the Covid-19 pandemic has changed people’s attitudes and behaviours fundamentally. Will we go back to business as normal or has a crisis that has affected everyone persuaded more people to see the bigger picture? To what extent do consumers – and broader society – want to shift to a way of life that is less preoccupied with profit and more focused on sustainability, equality and similar values?

These are big philosophical questions, but they will certainly have implications for the way people save and invest for the future. In particular, it could lead to a further boost for the rapidly growing movement for investment according to environmental, sustainable and governance (ESG) principles.

Already, the consultancy Deloitte estimates that the percentage of both retail and institutional investors in some Western markets who invest at least part of their portfolios with ESG in mind has reached 75% - up from 48% in 2015. Covid-19 could now accelerate this trend.

What does that mean for the investment companies sector? Well, analysis on this topic published earlier this year by Interactive Investor raised some eyebrows. It complained that of the 140 ESG funds in its ethical investment universe, only 17 came from the closed-ended fund sector – just 12%. At first sight, then, investment companies don’t appear to be meeting the needs of investors and advisers looking for fund-based ESG opportunities.

It’s not that simple, of course. As the AIC itself pointed out, since investment companies account for only 8% of all collective investment funds, it’s hardly surprising that they also represent only a minority of ESG options. Indeed, you might even argue on that basis that the sector is over-represented in Interactive Investor’s universe.

Certainly, in particular areas, investment companies do a great job of providing ESG-focused investors with plenty of choice. With specialist sectors devoted to environmental funds and funds investing in renewable energy-related assets, for example, the investment companies industry caters very well to these particular interests.

Other areas, however, are so far less well-represented. The “S” and the “G” are harder to target for ESG investors when surveying the closed-ended fund landscape.

In fact, that’s the case across all collective funds. Investment managers realised long ago that there was a sizeable market for funds investing with a green tilt and have responded; more recently that theme has broadened, along with the renewable energy sector itself. Other areas of ESG, however, remain less well covered.

Can investment companies start to fill the gap? There are reasons to be optimistic that they can. This, after all, is an industry with a proud and long track record of innovation – it has led the way into myriad new asset classes over the years, giving a broad range of investors access to everything from private equity to leasing plans.

Moreover, the unique structure of investment companies should give them an advantage in this regard – their boards are now under a statutory duty to think beyond pure profitability. Companies law in the UK has been reformed in recent years to make it absolutely clear that boards must look past narrow shareholder interests when making decisions, taking into account a much broader range of stakeholders – employees, suppliers, customers, society and more. In other words, investment company directors are now legally bound to view the world through an ESG lens.

In time, this will hopefully lead to more ESG funds becoming available from closed-ended fund managers. The industry will be ready to respond to increasing demand because it already has to operate with an ESG mindset. And in the post pandemic marketplace, this could be crucial.