Our view is that the term ‘ESG’ is not fit for purpose. As such we have organized ourselves now with a focus on what we think should replace it:
Stewardship – Being responsible stewards of capital and acting as fiduciaries for our clients
Sustainability – Integrating material risks and opportunities into our analysis to make better investment decisions
Impact – Understanding where the companies in which we invest have a positive impact so that we can be intentional about committing capital to solving societal challenges
In an environment where the term ‘ESG’ has become politicised some are questioning whether we are reaching ‘peak ESG’. We think this is the wrong question – we think the right question is “Is ‘ESG’ really fit for purpose?”, and as Anne Simpson (Global Head of Sustainability, Franklin Templeton) alluded to in the foreword we think the answer to that is ‘No’ for the following reasons.
- ESG is too basic a term to be useful in describing areas that are increasingly varied and detailed, particularly in finance.
- It cannot easily distinguish between the way a company acts and what that company does.
- It makes no sense to conflate different intentions under one umbrella term.
We think we need to bring the focus back to long-term value creation and our duty as fiduciaries to our clients and we must provide clear explanations as to how and why we use core elements of ‘ESG’, stewardship, sustainability and impact to do better investment analysis, support our clients’ interests and contribute to solving real world challenges.
But before we move forward it is worth reflecting for a moment on how we got here.
The term “ESG” was popularized following the 2004 publication of the UN Global Compact’s report, Who Cares Wins and is an acronym that refers to “environment,” “social,” and “governance” factors that companies and investors should consider.
Since the establishment of the PRI in 2006, this once-niche responsible investment project, has gone mainstream with over 4,900 signatories and an estimated total AUM of US$121tn as of 20221.
The initial focus for ‘ESG’ was principally on exclusions however, as interest has grown and, for example, the PRI signatory base has broadened, the range of interpretations as to what ‘ESG’ is, has also ballooned.
And here we come to the heart of the issue – there is no one definition of ‘ESG’ – and the fact that ‘ESG’ (an acronym made up of two adjectives and a noun) has become a noun is in itself an issue.
We should also be clear that this is not just a problem for investors or even companies – this is also a problem for regulators where there are different interpretations across different regions, and has opened the term up to politicisation most notably in the US.
The concept of ‘ESG’ is ultimately wrapped up in sustainable finance – stewardship of financial, human and natural capital and a focus on delivering the best possible risk-adjusted returns for our clients. Ultimately this comes back to our duty as fiduciaries for our clients and it is this word, ‘Fiduciary’, that is missing from the ESG acronym.
‘ESG’, properly understood, is not one principle or even a fixed collection of particular principles. Rather, ‘ESG’, at its heart, is about the consideration of long-term Governance and Sustainability factors that drive sustainable value-creation.
It makes no sense to categorise stocks as ‘ESG’ or non-‘ESG’ – some companies might have more value-creation potential than others, but it’s not a binary classification – rather it is a continuum.
Stewardship has always been central to our approach and is an overarching guiding principle framing our interactions with clients.
There is no such thing as ‘ESG investing’ there is just investing which considers to a greater or lesser extent, the areas highlighted by ESG.
For Martin Currie this means a focus on what factors are material to value creation.
So how can we better describe this?
Our suggestion is to reframe ‘ESG’ through three key elements:
- Stewardship – the actions of the investment manager (such as engagement and proxy voting) to act as effective and responsible stewards of capital on behalf of clients.
- Sustainability – the analysis of sustainability related risks and opportunities as well as investee company behaviour to drive better informed investment decisions
- Impact – The focus on real world outcomes driven by impactful investor engagement and an intentional commitment of capital to those companies providing solutions.
Reframing it in this way sets out clear expectations for both clients and the companies that we invest in and also requires that we are transparent in how we incorporate and report on these.
Stewardship has always been central to our approach and is an overarching guiding principle framing our interactions with clients, companies and how we approach running our own business.
The UK’s Financial Reporting Council (FRC) defines stewardship clearly in the UK Stewardship Code – Stewardship is the responsible allocation, management and oversight of capital to create long-term value for clients and beneficiaries leading to sustainable benefits for the economy, the environment and society.
This definition captures the key elements that frame our approach including how we identify and analyse the companies that we invest in, how we build portfolios to meet client needs and how we act as responsible and engaged owners of the companies that we invest in on their behalf.
It also captures the role that we play as active owners in supporting long-term value creation and encouraging change as necessary.
Stewardship is the way we can contribute to addressing systemic issues, supporting companies in addressing key material risks, embracing opportunities to help clients and their beneficiaries achieve their long-term goals.
Sustainability forms a key element of our analysis with a focus on how companies use the capitals available to them (financial, human and natural) to drive value creation and factors that may have a material influence on the ability of a company to generate sustainable long-term returns.
Our analysis includes understanding a company’s relationship with its employees, customers, communities, suppliers, and the environment. It is also about how the company is governed, how decisions are made and how capital is allocated.
It is therefore about both risks and about opportunities – for example for some companies the transition to a lower carbon economy will present material opportunities to grow their business.
Sustainability is also about understanding the impact that companies have in the way that they run their operations and the potential impacts on the different stakeholders that are key to the long-term success of the business.
Impact can also be more purposeful and this is how we think about this third pillar. Here we focus on intentionality.
This includes the consideration of the products and service that companies provide which specially target or address particular issues or challenges.
This also includes the real-world outcomes that we, as investors and responsible owners, can help support through the engagement that we undertake.
Both of these are considerations that we take into account in analysis, activity and reporting.
We think that ‘ESG’ started off with good intentions and ‘E’, ‘S’ and ‘G’ each have their own merits but what we have ended up with is an ugly acronym and a term that has been hijacked and has become a distraction from necessary focus.
Ultimately this is about long-term value creation and perhaps recognising that ‘ESG’ is no more or less than a set of long-term value drivers may defuse the current tension surrounding the term.
We think it is time to leave ‘ESG’ behind, focus on our fiduciary duty to our clients and recast this as Stewardship, Sustainability and Impact.
Regulatory information and risk warnings
This information is issued and approved by Martin Currie Investment Management Limited (‘MCIM’), authorised and regulated by the Financial Conduct Authority. It does not constitute investment advice. Market and currency movements may cause the capital value of shares, and the income from them, to fall as well as rise and you may get back less than you invested.
The information contained in this document has been compiled with considerable care to ensure its accuracy. However, no representation or warranty, express or implied, is made to its accuracy or completeness. Martin Currie has procured any research or analysis contained in this document for its own use. It is provided to you only incidentally and any opinions expressed are subject to change without notice.
The document does not form the basis of, nor should it be relied upon in connection with, any subsequent contract or agreement. It does not constitute, and may not be used for the purpose of, an offer or invitation to subscribe for or otherwise acquire shares in any of the products mentioned.
Past performance is not a guide to future returns.
The views expressed are opinions of the portfolio managers as of the date of this document and are subject to change based on market and other conditions and may differ from other portfolio managers or of the firm as a whole. These opinions are not intended to be a forecast of future events, research, a guarantee of future results or investment advice.
Please note the information within this report has been produced internally using unaudited data and has not been independently verified. Whilst every effort has been made to ensure its accuracy, no guarantee can be given.
The information provided should not be considered a recommendation to purchase or sell any particular strategy/fund/security. It should not be assumed that any of the security transactions discussed here were or will prove to be profitable.
It is not known whether the stocks mentioned will feature in any future portfolios managed by Martin Currie. Any stock examples will represent a small part of a portfolio and are used purely to demonstrate our investment style.
The analysis of Environmental, Social and Governance (ESG) factors forms an important part of the investment process and helps inform investment decisions. The strategy/ies do not necessarily target particular sustainability outcomes.