Fund managers’ ESG claims outperform reality

The Redington study showed that 39 per cent of the 104 asset manager respondents it polled were unable to provide an example of a climate change-related engagement effort. 

While 76 per cent reported considering climate-related risks and opportunities, 62 per cent said they had an ESG policy in place and only 60 per cent could cite an occasion where climate risk factors had influenced a buying or selling decision.

Nick Samuels, head of manager research at Redington, told Pensions Expert that while there is momentum driving increased engagement, “the pace of change has probably been slower than we’d like”.

One of the reasons is that the survey cut across all asset classes. While equity-oriented managers tended to score well on engagement, pension schemes “really don’t have much equity exposure any more”, Mr Samuels said.

And although there is a lot of scope for engagement regardless of asset class, “what our survey is showing is that those other [non-equity] asset classes are behind the curve, and there’s a lot more to do [to catch up]”.

Fund managers overestimate their performance

Of those fund managers that do engage, questions remain about how accurate they are when reporting both the results of that engagement and their ESG compliance more broadly. 

A report by multi-asset investment vehicle Snowball, looking at the performance of its own portfolio managers, found that they overestimated their ESG impact by an average of 10 per cent when compared with Snowball’s proprietary good practice framework.

Commenting on the report, Snowball chief executive Daniela Barone Soares pinpointed the lack of a “consistent framework to measure impact” as “a real obstacle for fund managers trying to make a difference while delivering attractive financial returns”.

“Snowball’s proprietary impact measurement framework seeks to help solve some of these obstacles, and there are a number of measures we would like to see implemented across the industry,” she continued, such as “a commitment to impact leadership, having protection in place against mission drift, [and] more public reporting”.

But Richard Burrett, chief sustainability officer at Earth Capital, told Pensions Expert that the prevalence of bespoke metrics risks confusing clients.

“We’ve seen a growing effort to converge around more standardised ESG metrics in recent years, driven in part by the vast array of approaches used by different fund managers and rating agencies,” he said.

“However, even with more widely used metrics such as MSCI data, fund managers often interpret these metrics in different ways to produce their own ESG assessments.

“As we’ve seen in this report, this can cause some managers to overestimate their ESG performance, and different managers’ environmental or social ratings for particular companies can vary significantly as a result.”

Mr Burrett said that to combat ESG rating inflation, benchmarking companies against “science-based targets like the UN sustainable development goals” would be wise.

Manager claims not supported by evidence

Alex Edmans, professor of finance at London Business School, told Pensions Expert that “a lot of funds that are claiming impact don’t distinguish correlation from causation”.

While managers might claim that their investment led to a positive environmental or social change in investee practices, “those companies could have been doing that anyway. It’s very difficult to prove that’s the result of your investment,” Mr Edmans said.

Further, a lot of funds that recognise they are unable to substantiate claimed impact nonetheless use those claims in their marketing material, both to attract clients in the first place and to justify charging premium fees. 

The Financial Conduct Authority is now showing interest in the problem, he noted.

A recent study by Research Affiliates, to which Mr Edmans is an adviser, looked at what happened when the same company was measured by two different high-profile ESG ratings providers.

The company, Wells Fargo, was ranked as top-quartile in governance by the first provider and in the bottom five per cent by the second provider, solely due to which category a recent scandal involving fake bank accounts had been placed. 

Facebook, subjected to the same treatment, was scored in the top 10 per cent in environment by one provider and in the bottom 30 per cent by the second, because the providers environmental ratings looked at entirely different sets of criteria.

New reporting requirements, such as the EU taxonomy and the Task Force on Climate-related Financial Disclosures guidelines, are of limited use in tackling the problem given the innate difficulty of quantifying non-financial results, Mr Edmans said.

Ultimately, myth-busting and a more honest accounting for evidence is the solution, he continued.

“I think the main thing we need to do is to make the clients aware that the evidence is nuanced for whether ESG outperforms or not, and that it’s not clear that a lot of the impact claims are true. 

“I want to educate the clients, because once clients are more discerning and less willing to fall for those claims, then I think the industry is going to think twice about making them. That will regulate the industry far more than any official regulator can do.”