On the go: Integrating environmental, social and governance factors into investment decision-making across all asset classes will lead to increased portfolio returns, according to Aon.
A report by the investment consultancy said ESG considerations should be “demonstrably integrated within the investment process” and implemented across the full range of assets held by pension schemes.
Aon advised pension fund trustees to use scenario analysis to consider the implications of climate change on their asset allocations.
ESG criteria are also relevant in manager selection and involve the scrutiny of asset managers, ensuring they have the necessary skills, ESG data and ESG tools to identify material risks and opportunities within investment portfolios, the report stated.
It said the growing importance of ESG trends and “the benefits” from managing ESG issues, as well as increasing ESG-related regulation, means that asset managers will be keen to improve the ESG profiles of the underlying assets they hold in their portfolios.
Aon added that companies with the best ESG ratings are “better positioned to deliver improved risk-adjusted returns” than companies with the worst ESG ratings, which are at greater risk of underperforming due to their “poorer management” of ESG issues.
Portfolio managers and companies with strong ESG profiles tend to be more resilient when faced with challenging market conditions, the report continued.
“A combination of robust risk controls, strong compliance standards and embedded planning to deal with current, medium and long-term ESG risks allow high ESG-rated companies to lower the risks of severe incidents, such as fraud, litigation and environmental or corporate governance issues,” it stated.
Fewer severe risk incidents helped to reduce the chances of a sharp decline in a company’s stock price, the report added.
Mark Jeavons, head of climate change insights in the global asset allocation team at Aon, said ESG integration is “important because of regulations requiring pension fund trustees to look at financially material risks such as climate change”.
“Better ESG integration means it is likely that such risks will be better managed,” he said
“While some investment fads come and go, the trends driving the current need for sustainable business practices and responsible investment are very real and here for the long term.
“We believe that fully integrating ESG into the investment process and investment strategy is inherently consistent with fiduciary duty and of acting in the best long-term interests of all stakeholders,” he added.
Sue Bonney, head of ESG at KPMG, said: “The financial outcome of investments is now tied to the real world impact of those investments. ESG is now more than corporate responsibility, it’s about commercial value — this is driving a faster pace of change and increasing focus. And we expect this demand to continue alongside increasing scrutiny.”
She added that ESG frameworks cut across entire business models.
“Customers, employees, shareholders, lenders, rating agencies and regulators are demanding that companies consider how their business impacts the world, their contribution to society, and how they conduct themselves. Market leaders are taking a strategic response to ESG,” Bonney said.
