Events such as the Australian bushfires and widespread criticism of corporate culture of various firms have highlighted the need for deeper understanding of the companies in which we all invest.

Consider the numbers: in 2017, ESG investments grew by 25 per cent from 2015 to $US23 trillion, accounting for about one-quarter of all professionally managed investments globally.

In a recent study by KPMG International, more than one-third (36 per cent) of C-suite and board members surveyed indicated that investor pressure had increased the company’s focus on ESG.

Selecting the ‘right’ investment

When considering which investments most closely align with their views and values, it is important for investors to understand that responsible investment is a very broad term, encompassing a range of investment styles.

SRI typically refers to the divestment of companies whose business activities focus on socially objectionable industries. Examples include tobacco or gambling, but definitions can vary widely based on investors’ own social views and beliefs.

We view ESG, on the other hand, as having a greater focus on company fundamentals and, subsequently, investment outcomes. It is broader in the range of issues covered (i.e. it also considers environmental and governance themes) and also in the way it can be integrated, whether it is a negative screen, portfolio constraint or factors within the investment decision-making process itself.

When considering the ESG style of an investment manager, there are a number of areas for investors to consider. For example, does the manager integrate ESG issues into its core investment process? The reason for this is that investment managers who consider ESG issues material to the performance of a company generally have a better chance of maximising risk-adjusted returns for investors.

Investors should also consider how active the manager is in engaging with the companies in which it invests. Active owners communicate with companies they invest in and vote on important company issues to help determine the future direction of the company.

The best ESG managers also issue extensive reporting on their practices — whether that is portfolio composition, risk exposures or engagement practices — and clearly display this information for investors to digest.

Most thorough and sophisticated investment managers should be incorporating some level of ESG assessment into their traditional strategies. However, sustainability parameters vary by investment manager depending on their style, process and level of ESG integration.

ESG is a term that is overused by many in the wealth management industry. It requires more than a tick-the-box approach, more than an ESG overlay. ESG elements provide myriad factors that can make a difference to your investments. ESG can be a proxy for management quality; it can be a warning indicator for companies carrying greater risk.

At Acadian, we incorporate a range of material ESG factors when assessing investment targets. Many of these apply across our entire investment universe, while others vary by region and industry. We make these considerations on a consistent and ongoing basis, not just a few times a year.

Investors need to do the same. ESG can help them improve their returns.

Matthew Picone is vice-president and portfolio manager at Acadian Asset Management and a member of the advisory committee of the Australian chapter of the UN’s Principles for Responsible Investment (PRI).

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