ESG gauntlet laid down as member demand grows

As requirements for UK pension funds to report their views on financially material risks including climate change, pressure is building on asset managers to accommodate these new strategic views.

In May, the Association of Member Nominated Trustees issued a formal complaint to the Financial Conduct Authority with the backing of pensions and financial inclusion minister Guy Opperman. It alleged a “continued unwillingness of fund managers to accept client-directed voting in pooled fund arrangements”.

I do feel there’s a little bit of buck-passing

Joanne Etherton, ClientEarth

Earlier this month, Treasury select committee chair Catherine McKinnell wrote to FCA chief Andrew Bailey, pressing the watchdog to explain how it had acted on these concerns.

But launching a study of institutional investors’ attitudes to ESG, Schroders global head of stewardship Jessica Ground said that despite the UK’s status as a leader on sustainability and globally declining levels of trustee scepticism, the AMNT’s members are in the minority.

“We get very little from trustees around what they would like us to engage on,” she said, explaining that this was one of the reasons the fund house had decided to survey trustee attitudes.

“We felt maybe… that we were engaged with companies on things that we felt were material, but we hadn’t really calibrated that with clients,” Ms Ground added.

The most commonly cited engagement issue revealed by trustees was climate change, ranked in the top three by 54 per cent of respondents, ahead of corporate strategy and accounting quality.

Members demand more

Regulations that came into force in October now require trustees to publish their views on financial material ESG considerations, explicitly including climate change, in their statements of investment principles. Adding to the pressure to act, emerging evidence suggests that consumers and scheme members will react badly if they discover that their retirement savings are not being invested sustainably.

A report by environmental lawyers ClientEarth revealed that the British public thinks financial institutions should be legally accountable for their contributions to global warming via fossil fuel investments, and should do more to enact change.

Seventy per cent of consumers think a more robust response is needed to climate change, while 63 per cent say it is the biggest issue facing mankind.

Similarly, 59 per cent say asset owners and banks should divest from fossil fuels, and 60 per cent say they should be legally accountable for doing so.

“About two-thirds of the people polled were unaware of how their savings were being used,” said ClientEarth’s finance lawyer, Joanne Etherton, referring to the widespread financing of fossil fuel extractors via both passive and active strategies.

“When people realise that they’re quite horrified, because people these days are really quite careful consumers.”

Asked about trustees’ complaints of their views being ignored and asset managers’ assertion that they are rarely contacted, Ms Etherton called on both parties to step up.

“I do feel there’s a little bit of buck-passing,” she said, encouraging the industry to focus on the financial materiality of ESG risks and taking meaningful stewardship actions, for example, by switching products if their views are not accommodated.

It is worth remembering that ESG requirements for trustees are only a recent introduction, said Hogan Lovells partner Faye Jarvis. While it is possible that first attempts at SIPs may leave something to be desired, the requirement to implement these by October 2020 should lead to more meaningful action.

“I think it’s going to be a work in progress and I suspect that what we see in the SIPs is going to be broadened out and developed over time,” Ms Jarvis said.

However, she added that with the Pensions Regulator enforcing the publication of these statements rather than policing content, the majority of pressure to take meaningful action would come from activists and public scrutiny.

ESG should not cost more

Ms Ground also hit out at asset managers charging more for ESG variants of their existing products.

Trustees have previously complained of hikes in prices creating a further barrier to implementation of their new SIPs.

This issue is particularly apparent with passive providers, where headline costs are already at a low base.

For example, for schemes invested in Legal & General Investment Management’s All World Equity Index Fund, which carries costs of 20 basis points, upgrading to the Future World Fund – which tracks a climate and factor-tilted variant of the same index – will cost the same again.

Similarly, switching from BlackRock’s ACS World ex UK Equity Tracker Fund to the ACS World ESG Equity Tracker Fund involves a jump from charges of 1bp to 6bp, although the manager pointed out that ESG variants of its iShares exchange traded funds charged little or no premium.

Schroders has just switched its own scheme’s default fund into the sustainable variant its multi-factor equity approach. Both funds carry management charges of 20bp.

“Fundamentally, understanding climate change, social change, engaging with company management, is how we as fund managers can add value,” Ms Ground said, caveating that Schroders asks schemes to evaluate ESG-tilted performance over five years rather than the typical three. “We’re doing this because this is delivering alpha but not because it’s profit enhancing.”

Ms Etherton said sustained pressure from trustees as buyers of asset management products might alleviate this problem.

“I don’t understand why they’re so much more expensive… it’s just a different index,” she said. “Clearly, we need more pension funds to be challenging the industry on that.”