We are all on a journey across this fast-changing landscape and our industry’s well-intentioned efforts can be confusing and counterproductive.
Setting out investment beliefs
Having defined its mission statement, an asset owner needs to support it with a set of more specific investment principles or investment beliefs. These should be a set of clear, impactful statements that will help select the investment strategy, inform asset allocation and align all investment decisions.
Investment beliefs are ‘assertions about investments and the way the investment world works which, when developed and shared, help with investment decision making’1.
By definition, because investment beliefs are the views held by a particular institution, they can not be imposed from outside. They represent explicit and codified expressions of the assumptions an institution makes about how it should invest, and the principles it follows as a result.
They are framed by the view of fiduciary duty and guided by the answers to the questions set out below:
- How broad is the fiduciary duty beyond strictly financial benefits for stakeholders? For example, is there a wider consideration of the investment impact on people and planet? How is this translated into investment decisions?
- To what extent are ESG factors viewed as material to investment returns (through risk or opportunity)?
- Will ESG be incorporated into investment decision making? If so, what degree of ESG consideration will be applied, from basic norms-based screening all the way through to integrating active ownership and ESG factors within traditional investment decision-making criteria?
- Are there particular sectors/industries or companies that will be screened regardless of their financial attractiveness?
However, in our experience one key driver is the views on long-term investment and sustainability. These focus on the extent to which:
- long-termism is viewed as conducive to value creation by companies and in the wider economy.
- ESG issues are considered sources of long-term (as well as shorter-term) risk and opportunity; and
- stewardship adds value by protecting and improving returns and company sustainability practices.
Driving ESG and sustainability and Forward
The process of developing investment beliefs requires buy-in from different stakeholders and, as such, the process can take time as the board/investment committee debates and fleshes out these beliefs.
A good articulation of this process is demonstrated by the US pension fund, the California State Teachers’ Retirement System ‘CalSTRS’. The timeline for this processwas about two and a half years and encompassed a peer review, leveraging external experts and consultants and extensive discussions.
Links to some strong examples of investment beliefs from asset owners such as New York State, CalSTRS, APG, HESTA, USS and Brunel are provided at the end of this document.
Common themes of all of these examples include: a focus on the long term, the influence of strategic asset allocation, the benefits of diversification and the importance of responsible investment considerations.
Armed with clear investment beliefs, an asset owner is therefore able to identify managers who are aligned to their approach to investment. As such, the contracts or ‘mandates’, where the asset owners set out their requirements and expectations are one of the most important elements in ensuring that institutional investor partnerships fulfil long-term objectives. Equally, in setting out these mandates, the asset owners can clearly drive sustainability and ESG forward.
It is important to note that long-termism and sustainability are two distinct concepts. Not all investment that is longterm is necessarily sustainable.
Long-Term and sustainable investment
There has been extensive research produced looking at the benefits of long-termism – notably the work done by the initiative Focusing Capital on the Long term (FCLT).
In addition, there is a growing body of evidence showing that businesses which adopt effective sustainable business practices, specifically through consideration of ESG factors, enhance their competitive advantage, increase operational effectiveness, and ultimately improve their long-term financial performance. We wrote about this extensively in a paper produced last year called, The Value of ESG here .
As such, one robust approach that some leading asset owners have chosen to adopt is to focus on long-term sustainable investment – essentially targeting long-term value creation by companies and the economy as a whole.
It is important to note that long-termism and sustainability are two distinct concepts. Not all investment that is long-term is necessarily sustainable. Equally, investment does not need to be long-term in order for sustainability factors to be relevant – ESG factors can have a material impact on a business in both the near and the long term. However, the two concepts are complementary for an asset owner in its search to maximise long-term value creation.
Manager selection - what to look for - Types of questions
Once investment beliefs are in place they can then be built into the investment strategy and manager selection.
One of the key aspects of manager selection will be an alignment of values and beliefs. In examining the process for manager selection, it is interesting to look at the example set out by the Environment Agency Pension Fund (EAPF) in the UK (now part of the Brunel pension pool). It developed the following high-level checklist for long-term asset owners in seeking an investment manager:
- Integrate your investment beliefs into your manager selection criteria, especially when looking at investment process and organisational qualities.
- Ensure you explicitly evaluate managers on their stewardship and governance capabilities – their involvement in voting and engaging with the companies they invest in.
- Pay little attention to short-term performance ‘past performance is no guide to future performance’ – focus on the process; if you must consider performance, look long term.
- Ensure your contractual relationships don’t create inadvertent short-term pressures.
- Ensure reporting is relevant to a long-term mandate and to your needs.
- Monitor your managers – but not by looking at short-term market performance: look for idea generation, strategic insight, team renewal, and real indicators of business performance of the underlying companies. Think like a manager of an industrial holding business!
- Communicate with your managers regularly, particularly sharing your expectations of them, and your own pressures and concerns – consider a covenant or similar.2
Equally, with a belief in the value of incorporating ESG, it looked at the following areas to explore with the potential manager:
- Seeking good examples and case studies.
- Asking the fund manager (not the RI/ESG specialists) the ESG questions – to evidence whether the fund manager is serious about ESG.
- Challenging on whether they are ahead of the market in understanding the impact and financial consequences of ESG factors.
- Exploring the links between stewardship and investment process and whether they feed off each other.
- Using UNPRI transparency reports and assessment to reduce questions and enhance due diligence.3
Monitor your managers – look for idea generation, strategic insight, team renewal, and real indicators of business performance of the underlying companies.
Incorporation into mandates
One key way to set out expectations as an asset owner is through the investment mandate.
An investment mandate sets the parameters of the investment relationship and defines the incentives that will guide the asset manager. As such, it is developed to meet the long-term needs of the particular asset owner. This will include careful consideration of the benchmark, the risk targets and control measures, and the fee and incentive structures.
Stewardship is also a crucial element of the relationship and an opportunity to enhance the long-term sustainability of the businesses invested in. Unless an asset owner chooses to conduct engagement themselves, they will expect their asset managers to engage with companies on material sustainability or ESG matters, and to thoughtfully vote at all company meetings unless there are overriding reasons not to do so.
Once appointed, it is then crucial for asset owners to monitor and engage with managers on their stewardship activities. This then also serves as a key tool to drive long-termism and incorporation of sustainability. The reporting by asset managers should explain their stewardship activities and illustrate the outcomes of stewardship. This may include, for example the companies with which engagement has been conducted and sustainability quality metrics such as CO2 intensity, carbon footprint or ESG ratings.
With often very long-term goals and in some cases very substantial funds under their control, asset owners are in a prime position to drive sustainability, ESG and long-term value creation.
By clearly understanding their own mission and setting out a set of clear investment beliefs there is the opportunity to identify asset managers who are aligned and able to deliver on their desired outcomes. The role of stewardship and reporting to the asset owners is key and offers the opportunity for an asset manager to demonstrate long-term value creation and help the asset owners deliver the outcomes required.
The importance of sustainability in aligning the relationship between the owners and users of capital is best encapsulated by the statement from the International Corporate Governance Network:
‘Sustainability implies that the company must manage effectively the governance, social and environmental aspects of its activities as well as its financial operations. In doing so, companies should aspire to meet the cost of capital invested and generate a return over and above such capital. This is achievable sustainably only if the focus on economic returns and strategic planning includes the effective management of company relationships with stakeholders such as employees, suppliers, customers, local communities and the environment as a whole4.’
1Source: University of Cambridge Institute for Sustainability Leadership (CISL). (2016, May). Taking the long view: A toolkit for long-term, sustainable investment mandates. Cambridge, UK: Cambridge Institute for Sustainability Leadership.
2Source: Environment Agency Pension Fund. ‘Being a Long-term Investor’ (December 2016).
3Source: Environment Agency Pension Fund. ‘Observations form our search and tender’ (July 2015).
4Source: International Corporate Governance Network. ICGN Global Governance Principles.
Good examples of investment beliefs from asset owners:
CALSTRS – https://www.calstrs.com/sites/main/files/file-attachments/calstrs_investment_beliefs.pdf
APG – https://www.apg.nl/en/asset-management/our-beliefs
HESTA – https://www.hesta.com.au/content/dam/hesta/Documents/Core-investment-beliefs.pdf
USS – https://www.uss.co.uk/how-uss-invests/investment-approach/investment-beliefs-and-principles
Brunel – https://www.brunelpensionpartnership.org/wp-content/uploads/2018/07/Our-Investment-Principles.pdf
Regulatory information and risk warnings
Past performance is not a guide to future returns
This information is issued and approved by Martin Currie Investment Management Limited (‘MCIM’). 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 analysis of Environmental, Social and Governance (ESG) factors form an important part of the investment process and helps inform investment decisions. The strategy does not necessarily target particular sustainability outcomes.
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