In 10 years’ time will all portfolios be ESG portfolios?

Where should investors be turning to as they look to diversify their portfolios? It’s a bold question but consider the growing demand for everything ESG over the last 12 months.

Will we still be talking about ESG in 10 years’ time, or will all portfolios be ESG portfolios? And who will be the main beneficiaries from transformative shifts in demographics, innovation, globalisation and scarcity?

The Holy Grail for asset managers remains to generate long-term, sustainable returns for investors. It’s an endeavour that’s becoming harder to deliver, given the low interest rate environment that has persisted for over a decade and shows no sign of changing. Moreover, today’s investors increasingly want positive performance married to ESG factors in their investments.

When you consider the growing demand for everything ESG over the past 12 months, one might speculate that future portfolios will allocate substantially more towards investments in secular growth trends. After all, strategies driven by demographic changes, globalisation, innovation and scarcity are likely to be the ones that prevail for decades to come.

Successful active managers could be those investing in tomorrow’s world, with companies that are likely to perform well in the future – rather than an index comprised of the companies that have done well in the past. Their portfolios would address longer-term challenges, like increased urbanisation, an ageing and more limited workforce, and adapting to climate change.

Speaking at The Future of Portfolios event in London in July, Esty Dwek, Head of Global Market Strategy for Dynamic Solutions at Natixis Investment Managers (Natixis), said: “[We’re seeing] more investors wanting to move away from the short-term uncertainty of markets and look to the future with more confidence. That could be investing in thematics or megatrends, responsible investing… or adding alternatives. All of these are complements to your more traditional asset classes, meaning it is not one versus the other, it is one with the other to help with long-term diversification.”

Simon Gottelier, co-founder of Thematics Asset Management, one of Natixis’ affiliate managers, also spoke at the roundtable event. He explained how thematic investing focuses on markets that are growing faster than the broader global economy due to a range of long-term, secular growth drivers – contributors to the economy that remain consistent over time rather than based on seasonal or cyclical trends.

“We run a safety fund, an artificial intelligence and robotics fund, and a water fund, all of which are strategies driven by what we call ‘primary forces’,” said Gottelier. “That is, those things that are here to stay and which will be the drivers of economic changes for the next 50 to 100 years.”

According to Gottelier, thematic equity investors not only understand what it is they are investing in, but they also gain a sense of purpose to their investment. “When they invest in water, for example, it’s not only a financial investment, it's also something that contributes to the greater good of society,” he adds.

Investing for social good
Investors are certainly becoming more discerning about socially responsible investing. According to ESG research by Natixis1, three-quarters (76%) of individual investors want their investments to align with their personal values – and more than half say they actively avoid investing in companies that go against their personal values.

Just not at the expense of returns. Harald Walkate, Head of Corporate Social Responsibility and ESG at Natixis, commented: “Today’s investors expect the best of both worlds – investments that generate positive performance and also support the values and causes that matter to them – and those two worlds are increasingly merging.”

There are also definite views on what concerns investors the most. Far from being only about climate change, Natixis’ research found that one of the main issues for investors globally is human rights (54%), surpassed only by bribery and corruption (60%)1. Clearly, in the mind of the investor, the social side of ESG carries equal weight to the E and the G.

Talking ahead of the Salone di Risparmio event in Italy in May, Marina Iodice, SRI Analyst at sustainability investor Mirova, said: “While the environmental challenges in ESG investing are huge and far-reaching, there are significant risks and opportunities stemming from the social aspects too. At Mirova, we look at basic needs – whether a company can provide products that enhance basic needs of the population, or whether they present a risk for the basic needs of the population.

“At the same time, we also look at well-being, which encompasses human resources, responsible marketing, product safety, and other kinds of indicators. And we’re looking at sustainable work.”

Mirova, also a Natixis affiliate manager, provides its clients with investment solutions that genuinely aim to reconcile financial performance with positive environmental and social impact. Multi-disciplinary teams, united around a common vision, diverse areas of expertise and the ability to innovate and establish partnerships with key experts mean Mirova is positioned to steer capital towards the investment needs of a real, sustainable and value-creation economy.

Earlier this year, Mirova launched a fund dedicated to promoting gender equality and increasing women’s representation in top-level management with a unique partnership with UN Women. The Mirova Women Leaders Equity Fund gives back a percentage of its fees to the UN Women French Committee, with the aim of supporting the empowerment of women all around the world.

“We have dedicated funds related to job creation in France – we’ve another related to gender parity,” Iodice continued. “These are all indicators that belong to the S-sphere of ESG, and we really look carefully at them, and fine-tune them, for every company in the sectors we want to invest in.”

ESG that makes a difference
The growing interest in ESG means it is becoming more pervasive at the investment process level and the product range level. As ESG integration becomes the baseline, the bar for products labelled ‘ESG’ or ‘sustainable’ will be set much higher, and they will have to go well beyond routine integration to merit the label – seeking out ESG themes or focusing on companies that make distinctive contributions.

Explaining the approach of Thematics Asset Management, Gottelier said: “I think it's very easy to pay lip service to ESG. And there are certainly plenty of products out there that do that – likewise, you can spot those companies just trying to ‘green’ their credentials. What we want to do is fully integrate ESG into our process, so that it’s ingrained in our risk management methodology.”

He added that, in the active ownership parts of the process, Thematics AM uses ESG data to make decisions about whether to cap position sizes of certain companies in the portfolio, drawing a direct link between poor ESG performance and position sizing.

“We have the benefit of long-term relationships with a number of the management teams of the companies in the value chain, and we are engaging with them on relevant issues – using our proxy voting and meeting the management teams every year,” said Gottelier. “We recognise that, for some, ESG risk management is a tick-box process. For us, it’s far more important than that.”

Alongside meeting the needs of investors today, asset managers will increasingly need to be able to show that they have the foresight and flexibility to meet the needs of investors tomorrow. This includes being at the forefront of changes in regulation, having the capacity to innovate, ensuring that information and actions are communicated transparently, and being prepared to lead the conversation rather than simply following it.

“Driven by a genuine convergence of goals, the future of ESG investing is gaining positive attention and popularity across intermediaries,” added Walkate. “The task now is to further refine the investment processes, develop well-defined metrics and continue to improve transparency.”

Not all asset managers are created equal. For every Mirova and Thematics Asset Management, many more will be left floundering if they cannot meet industry and investor expectations on ESG. But for discerning, informed investors, the opportunities are there to capitalise on the wave of the future.
1 Source: Natixis Investment Institute 2019, ‘Looking for the best of both worlds’. The 2019 Cross-Survey ESG Report sources data from the Natixis Investment Managers Global Survey of Individual Investors, Global Survey of Institutional Investors, Global Survey of Financial Professionals and Global Survey of Professional Fund Buyers. Results from these four surveys were collected in 2018.

All investing involves risk, including the risk of capital loss. This material is provided for informational purposes only and should not be construed as investment advice. The analyses, opinions, and certain of the investment themes and processes referenced herein represent the views of Natixis Investment Managers and its affiliates as of July 2019. The views and opinions expressed may change based on market and other conditions. There can be no assurance that developments will transpire as forecast, and actual results may vary.