Felix Herrmann
Felix Herrmann
Investment Strategist, BlackRock Investment Institute
November 2017

Read time:

2:25

This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any financial instrument or product or to adopt any investment strategy.

As suspected, there were no substantial developments from the United Nations (UN) Climate Change Conference held in Bonn at the start of November.  It was a different story two years ago in Paris, where world leaders agreed on a global climate agreement – a potentially huge step towards a more environmentally-friendly global economy. The delegates faced a much tougher task this time, especially in light of the US decision to withdraw from the Paris Agreement in late May of this year.

What does this mean for sustainable investments?

Whatever the outcome of the Bonn conference, however, it seems that environmental, social and governance (ESG) factors and sustainability more broadly are firmly on many investors’ radar.  According to the Global Sustainable Investment Alliance (GSIA), a collaboration between the world’s seven largest organisations for sustainable investment, more than $23 billion USD was already being professionally managed using sustainable investment strategies at the start of 2016 – a figure that grown over the course of the year, and will likely continue to do so.

Institutional investors such as insurance companies and pension funds have been taking this approach for some time, the most high profile example being the Norwegian sovereign wealth fund – the largest sovereign wealth fund in the world – which invests the country's oil revenues according to a strict ethical investment policy. Companies that manufacture weapons of mass destruction, violate human rights or clear rainforests are strictly off the table (Government Pension Fund Global, Norges Bank Investment Management).

The UN’s PRI (Principles for Responsible Investment) is an investor initiative in partnership with the UN Environment Programme Finance Initiative which encourages signatories to use responsible investment to enhance returns and better manage risks. It lays out six voluntary and aspirational investment principles that offer guidance and support to its international network of signatories into incorporating ESG issues into investment and ownership decisions.

But this is not just an institutional trend – retail investors are also showing interest in sustainable investment. On the one hand, this can be explained by an increasing reluctance amongst individuals – especially younger investors – to give their money to companies whose actions conflict with their own personal values.  On the other, as more data becomes available, it is becoming more and more evident that sustainable investment and attractive returns do not have to be mutually exclusive. In fact, numerous studies have shown that sustainable investment could even generate returns equal to or better than those of conventional investments, and with lower levels of risk (E.G. MSCI ESG Research, 30/09/2017). Recent environmental catastrophes such as the Fukushima nuclear disaster and the ‘Dieselgate’ fuel emissions scandal have served as a drastic reminder of the dangers posed by unsustainable business practices

ESG as a Risk Management Tool

Risk can mean different things for different investors. Some may think of it as the volatility of a portfolio’s returns, but ESG investors can consider risk from a different perspective: the permanent loss of capital. With investing, avoiding companies susceptible to big losses can be just as important as picking the winners. ESG metrics can thus help investors go beyond traditional financial reporting to fully understand a company’s profile and better gauge its long-term risk and return prospects.

Jargon buster: navigating the world of sustainable investments

Abbreviations and the level at which they are used.

Companies
CSR: The term Corporate Social Responsibility refers to various sustainability standards for companies.

ESG-Ratings: Ratings agencies assess the sustainability of companies according to environmental, social and governance criteria.
Investment markets
Sustainability indices:
Large index providers now calculate sustainability indices in all major asset classes:
z. B. MSCI ACWI SRI, Global Sustainability Indexes (Morningstar/Sustainalytics)...
Investment companies
PRI: The UN’s Principles for Responsible Investment are based on an initiative by the United Nations (UN) and investors. Around 1,200 investment companies around the world have signed this voluntary commitment.

ESG-Ratings for fund products from Morningstar/Sustainalytics.

Established sustainability indices

For those wishing to invest sustainably, and willing to take on the associated risks, ETFs can help provide efficient, transparent market access.  With a wide range of products tracking sustainable indices, ETFs could offer a convenient and cost-efficient way to incorporate sustainable considerations into a portfolio.

Sustainable investing with iShares ETFs

Capital at risk. All financial investments involve an element of risk.  Therefore, the value of the investment and the income from it will vary and the initial investment amount cannot be guaranteed.

MSCI is one of the world’s leading sustainability index providers with its MSCI ESG and MSCI SRI Indices (SRI stands for Socially Responsible Investing). These indices combine a best-in-class approach with exclusion criteria.

The Dow Jones Sustainability Indices are includes an array of indices composed exclusively of sustainable sectors such as renewable or ‘clean’ energy. Sustainable ETFs have been issued for many different countries or regions around the world, primarily in the form of sustainable equity and bond ETFs.

Investors can usually identify sustainable investment companies by their PRI Seal. Their signatories undertake to uphold six principles for integrating ESG factors into their analysis and investment practices and to demand that companies adhere to these principles.

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