The recent explosion of interest in ESG and Sustainable investing has been a surreal experience. I first got involved in sustainable investing in 1998, and we developed what is now WHEB's investment strategy in 2005. For a long time, it felt like we were shouting in the wind. Now this has suddenly become one of the most popular parts of the investment industry.
How has sustainable investing evolved?
The 1980s and 90s saw the development of the Ethical funds. They screened investments to avoid unethical industries and business practises. Similarly, the environmental movement's messaging at the time seemed focussed on what we needed to give up. Sometimes caricatured as turning down the heating and wearing another jumper. Whilst worthy, it proved to be an unattractive proposition. As a result, it failed to capture the public imagination. The ethical investment industry was established, but it remained the preserve of a determined few. The penetration of ethical funds always remained a very small part of the investing industry.
In the new millennium, focus on Environmental, Social and Governance (ESG) analysis grew. This tried to rationalise responsible investing within conventional investment approaches. Ethical investing had been dismissed by many as being a moral stance and therefore quasi-philanthropic. Conversely, ESG overtly aimed to bring responsible investing to a mainstream audience. It allows investors to compare performance on responsible investment issues within industries. ESG Funds don't have to stray too far from a conventional benchmark and therefore can look like regular investment funds. However, the technical and data-oriented approach of ESG has two flaws, in our view. Firstly, focusing just on how companies are run and ignoring what they sell misses at least half the picture when it comes to how sustainable an investment might be. Secondly, on its own, ESG suffers from a similar problem as the whole investment industry. It has become increasingly technical and detached from our real economic experiences. As a result, it is very hard for the average investor, sittings outside the industry, to understand, let alone feel excited by.
Sudden shift in momentum
So, whilst the industry has continued to grow steadily over all that time, it remained in a niche until very recently. Over the past two or three years we've seen a very strong shift in momentum. It now feels like we have really hit a tipping point. In fact, we've come to talk internally about an ESG 'stampede'. Hundreds of new products have been launched. Every major investment house now describes how important sustainable and responsible investing is to them. WHEB suddenly has imitators! Why? And why now?
We could point to many potential catalysts. The Paris Climate Change agreement in 2015. David Attenborough's Blue Planet tv programme. Even the election of Donald Trump shaking half the population out of apathy. Any or all of these will have played their role, but for us at WHEB, the rising interest in "Impact" is what has really connected with the investing public.
The impact calculator illustrates the underlying positive impact that companies in WHEB's investment portfolio help create. This positive impact is ultimately generated by the end users of the products and services; the owner of the electric vehicle or the homeowner who buys renewable power. Investors in WHEB's strategy are aligned with these positive impacts by investing in the companies that manufacture these products. For example, an investment of £20,000 in the FP WHEB Sustainability Fund in December 2019 has been associated with the following positive impact during 2019:
- Based on a global average carbon price of £19 per ton (State and trends of carbon prices, World Bank Group, 2019).
- Based on a landfill tax of £91.35 which is equivalent to the UK's landfill tax in 2019.
- This assumes a US$500 annual health benefit from regular exercise (Tivity Health).
- This assumes annual earnings enhancement from having a Batchelors degree compared with a high school diploma of US$24,336.
What do we mean by impact?
Our starting point is our view that we are now in the early stages of a massive change in the shape of the global economy. We refer to it as the transition to a zero-carbon and sustainable economy. We believe that this 'transition' will change the shape of every aspect of our society and every industry. Some industries will disappear, others will have to re-engineer the way they operate. This is a threat to the future growth and profitability of big parts of today's economy and investment markets.
Our purpose at WHEB is to be part of the solution. By aligning our investors' capital with businesses that are enabling this transition, we will create value. The companies we invest in will be successful because they are helping to solve the great challenges that we face as a global society.
Our strategic lens is to focus on companies which sell products that have a positive impact on the environment or society. This helps us to identify markets which have structural growth in the longer term. The COVID-19 pandemic has only served to highlight this longer-term trend. The crisis we currently face is likely to increase the disparity in growth rates between industries which cause society harm and those which build social capital over the long term.
The opportunity for financial advisors from impact investing?
Impact investing has become popular for two reasons.
First, we see no conflict between investing sustainably and generating strong investment returns. Quite the opposite. Each drives the other. Investing in the impact economy is fast becoming a strategic asset allocation decision for some investors. Forecasting which sectors are likely to thrive in a 'future-fit' environment is not only about chasing growth and returns. We are also protecting investors' capital from exposure to the industries which will suffer and the assets which are at risk of becoming stranded.
Impact investing also creates a particular opportunity for financial advisors. Over recent decades, money and savings structures have become derivatives of themselves, less and less connected to any real economic activity that investors can relate to. As a result, the relationship between a saver and their savings, and consequently also between advisor and investor, has become shallower. Despite what the small print says, trust and confidence in many investments is still often based on recent historical performance. By contrast, impact investing is focused on positive economic and societal outcomes. Impact reporting and tools such as WHEB's impact calculator create a basis on which to communicate this to savers. This has the potential to change the conversation between advisor and client. As a result, investors form a deeper and more enduring engagement with the positive impact their savings are working towards achieving. And this in turn creates an opportunity for the advisers who help them to build stronger relationships with their clients.