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Stewardship and ESG

29th April, 2021

Key Takeaways

  • 2020 was an ESG tipping point which saw the equity fund management industry structurally shift
  • The 2021 AGM Season is the starting point to truly test the industry’s newfound ESG credentials
  • Voting support for resolutions on environmental and social issues will be heavily scrutinised
  • Fund managers are increasingly combining their ESG and investment stewardship teams
  • Proprietary ESG metrics are increasingly being adopted to add and exclude stocks across all equity holdings
  • For PLC’s ESG disclosure and engagement expectations are growing across large to smaller cap names
  • While the regulators are in the headlines the asset managers are moving ahead at a much faster pace
  • The opportunities for those companies that can authentically exhibit their ESG credentials are significant

The 2021 AGM season comes at a time when the asset management industry is being asked to “walk the talk” when it comes to Environmental, Social and Governance (ESG).

2020 saw a massive tipping point for ESG. In Europe alone, asset managers shifted the investment profile of 253 funds. In addition to these repurposed vehicles, there were 505 new ESG fund launches helping to push regional ESG assets to a record €1.1tn by the end of December, according to Morningstar.

With this dramatic increase in assets under management (AUM), the industry now faces an acid test to truly validate its ESG credentials at 2021 AGMs by exercising its proxy votes to back shareholder resolutions on issues ranging from climate change to workers’ rights.

Organisations like ShareAction, the responsible investment charity, are clearly shining the spotlight on those asset managers that are failing to live up to their ESG aspirations. Its voting matters report, which analysed 60 of the world’s largest asset managers, highlighted how only 15 of 102 ESG resolutions examined received majority support in 2020. BlackRock and Vanguard, the world’s largest asset managers, backed 12% and 14% of proposals, respectively.

One such ESG resolution saw the global consumer products group Procter & Gamble suffer last October, when 67% of its shareholders (including BlackRock) voted in favour of a resolution that called on the company to report on how and whether it can eliminate deforestation and intact forest degradation from its commodity supply chain.

This trend of increased ESG activism is expanding globally. ShareAction, which also has a holding in every FTSE 100 company, has been very vocal on issues ranging from better health to supply chains. Recent campaigns have tackled Tesco on obesity and HSBC on fossil fuel funding.

An interesting observation from 2020’s asset flows has been the growth of ESG-oriented passive funds, which represented 25% of total ESG fund flows. There are two major implications from this. Firstly, active managers are forced to raise their ESG game and demonstrate their value-add versus cheaper passive options. Secondly,

companies who are highly regarded by ratings providers such as MSCI or Sustainalytics, stand a better chance of inclusion in these passive ESG solutions and greater support for their share price. Large index tracking or passive funds like those provided by BlackRock, Vanguard and State Street are now even prepared to wield their voting rights in a sustainable manner, even for passive funds which do not have an explicit ESG remit.

This heightened level of scrutiny also comes at a time when the largest global fund managers are combining their stewardship and ESG teams (see the Fidelity case study below) and integrating ESG metrics across all their assets and portfolios. For their equity portfolios, this means that it is no longer just the large-cap companies and “hard to abate on climate change” sectors that will be in the spotlight; rather, their entire universe of stocks will be increasingly scrutinised, including their mid- and smaller-cap holdings.

Fidelity’s Global Head of Stewardship and Sustainable Investing, Jenn-Hui Tan, recently explained why Fidelity combined its Stewardship and ESG Teams.

“I think in the past the industry thought of them as two separate functions. Stewardship being the thing that you do with the companies that you invest in; be an active owner, promote the kinds of practices that you want, centred around governance. A good “G” piece, executive remuneration, minority stakeholder rights…. So, on and so forth. The sustainable investment piece was historically viewed quite separate, viewed more around the products that you are offering to the market, approach to E&S issues, bigger thematic issues. The journey the ESG industry has been on is to converge these two things together, to recognise that you are only going to be able to change bigger picture thematic issues like climate change, modern slavery or biodiversity, through the practice of stewardship. Through your active engagement with the companies you are invested in. For Fidelity we do not want to see these as two separate things, but as two halves of the same picture.”

Jenn-Hui Tan, Global Head of Stewardship and Sustainable Investing at Fidelity International

Amundi have pledged to integrate ESG across all assets (EUR1.73tn) by the end of 2021, with 100% coverage for ESG analysis of 8,000 + companies, backed by a proprietary model which evaluates 36 different criteria. By end of 2021, 100% of Amundi’s votes will take ESG issues into consideration.

Earlier this month Invesco released their 2020 ESG Investment Stewardship Report outlining their new commitment to integrate ESG into all investments by 2023. To enable this, Invesco have built their own proprietary ESG tool, ESGintel. This model uses 19 different key performance indicators or inputs for their stock selection and retention process from CDP disclosure on Carbon, to Gender Diversity and Compensation Alignment. This ESG tool will identify sustainability shortcomings which will be targeted through engagement and proxy voting activity.

BlackRock’s global stewardship team controls all the voting at an individual stock level for both the passive and active portfolios (not the individual fund managers). It views engagement as core to its stewardship efforts as it provides feedback to companies and builds mutual understanding about corporate governance and sustainable business practices. BlackRock has laid out very clear Stewardship priorities for 2021. These priorities reflect its continuing emphasis on Board effectiveness alongside the impact of sustainability related factors on a company’s ability to generate long-term financial returns. According to BlackRock, where “a company is not adequately addressing a key business risk or opportunity, or is not responsive to shareholders, our most common course of action is to hold the responsible members of the board accountable by voting against their re-election”.

As we wrote in our January report, Sustainability 2021 An Investors Perspective, the rapid expansion of dedicated in-house Stewardship and Sustainability teams and the demand for transparency and disclosure look set to increase dramatically across a broader set of metrics in parallel with increased direct engagement. Investors increasingly expect to see evidence of a credible, continuous improvement across material environmental and social criteria aligned to law, the latest science, standards and disclosure benchmarks. Expectations to meet and exceed best practice from customers, employees, beneficiaries, governments and wider society across social issues have only increased.

Conclusion

While 2021 has seen the launch of the EU’s Sustainable Finance Reporting Directive (SFDR) and mandatory Task Force on Climate-related Financial Disclosures (TCFD) for all premium-listed UK companies, the asset management industry has clearly taken the ESG baton from the regulators. Institutional investors, driven by heightened scrutiny of their own ESG credentials, are setting a much faster pace – driving ESG disclosure requirements and increased engagement for all PLCs in their equity portfolios. Those companies that do not engage and respond will be discarded or left on the side-lines. Given the scale of AUM growth, the opportunities for those companies that can effectively and authentically exhibit their own ESG narrative are also very significant.

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