"Many active equity managers are now disclosing their portfolio's carbon footprint versus the market. Leading managers disclose scope 3 emissions, which includes not only the direct investee companies but also their supply chains."
Equities are the key growth asset in Parmenion Ethical Solutions
Equities are the core growth asset within our Parmenion Ethical Solutions, given their ability to provide strong returns over the long term with relatively high liquidity. We also find that equities are the most advanced asset class in terms of ethical practices.
Clear expectations for ethical equities
It is widely accepted that good ownership of company equity means taking a long-term approach, engaging with management to encourage positive change, and voting at company meetings. When assessing equity managers, it's easy to get data on their voting statistics (number of meetings attended, % of votes cast, proportion in favour of management). We can also scrutinise their engagement reports to see how they've been working with companies to drive change.
Additional disclosures are becoming the norm
Many active equity managers are now disclosing their portfolio's carbon footprint versus the market. Leading managers disclose scope 3 emissions, which includes not only the direct investee companies but also their supply chains. Managers with a sustainability focus often also report on water/energy usage, gender representation, and alignment with the UN Sustainable Development Goals.
Data is certainly not perfect: it may be backward-looking, inconsistent between companies and sectors, with gaps (particularly for smaller companies and those listed in emerging markets), and often reliant on companies to self-report which can introduce bias.
For these reasons, it is important that active managers do their own research, as well as taking input from external data providers (such as Sustainalytics or MSCI). Ethical investing is subjective, and each fund will have a different approach to weighing up various ethical issues. Through engagement, fund managers can better understand which factors are most pertinent – data privacy in the software sector or carbon emissions for a construction company, for example – and work with company management to achieve greater transparency and improve practices.
Even within passive funds, equity managers are expected to make full use of the voting rights in their portfolios, as well as seriously engaging with companies as part of their responsibility as large asset owners and avoiding investing in companies with controversies and red flags.
We've seen an improvement over recent years but there is clearly further for some passive providers to go. For example, the Financial Times has published data on the voting records of various passive firms on climate change resolutions. While some providers backed 100% of resolutions, many providers were at 50% or below. This shows that there is a big difference in how different passive providers view environmental, social and governance issues and their voting. In many other ways, passive investing has become somewhat commoditised and investors may struggle to differentiate between providers. We see voting practices as a key differentiator in the passive universe to help investors choose the right fund for them.
The FCA is due to introduce new regulations, which will require advisors to ask their clients about their ethical preferences as a part of the investment suitability advice. This represents a sea-change in the industry being able to understand how individuals view ethical investing, and we see this as a big opportunity for advisors. We are ready to support advisors in providing training on ethical investing. Fund managers will also need to consider how their voting and engagement policies can adapt to reflect the ethical views of their underlying clients, as well as the fund manager's central policy. Perhaps we may see new technology to enable greater information sharing between underlying clients, advisors and fund managers on ethical issues.
Steps in the right direction
In summary, many ethical practices are already well embedded in equity investment, and there is increasing data available to investors around voting, engagement, carbon footprint and other metrics such as water and energy usage. All of this is positive and helps equity investors understand how their investment is affecting society and the environment.
This article is intended to be a topical commentary and should not be construed as financial advice from either the author or Parmenion Capital Partners LLP. If a client wishes to obtain financial advice as to whether an investment is suitable for their needs, they should consult an authorised Financial Adviser. Past performance is not an indicator of future returns.