ESG Investment Trends
Posted October 09, 2012
Despite the short-term volatility in today’s economy, asset owners and investment managers globally are increasingly embracing Environmental, Social and Governance (ESG) investment criteria. Sustainable investing tends to align with a longer time horizon, with benefits for both investors and the companies they invest in that include enhancing reputation, building future markets, and preparing for future resource constraints. Two key drivers are leading the trend of ESG integration into investment decisions: 1) Demand from asset owners is rising as asset owners adopt ESG integration strategies, and 2) ESG indicators are increasingly seen as material as they provide ways to help illuminate the intangibles and identify risks and opportunities that are often missed by traditional metrics. These indicators are typically a good a gauge for quality senior management, strong risk management and strategic planning.
Despite the short term volatility in today’s economy, asset owners and investment managers globally are increasingly embracing what is often termed ESG Integration or Sustainable Investing. As evidenced by the growing number of UN Principles for Responsible Investment (UN PRI) signatories, integration of environmental, social and governance (ESG) criteria into investment decisions is on the rise. As of June 2012, the 1,100 UN PRI signatories collectively represented US$32 trillion of assets under management, or 25 percent of the world’s total financial assets.
Signatories take a variety of approaches to sustainable investing—including niche products, active ownership, or complete ESG integration into investment decisions. While still limited, the UN PRI estimates that effective integration of ESG criteria into investment strategies reached 7 percent of the total market of AUM in July 2011, which represented approximately US$10.7 trillion. Furthermore, this trend is developing across all asset classes including both public and private equity.
Sustainable investing tends to align with a longer time horizon, with benefits for both investors and the companies they invest in. Such investments allow a company to establish the foundation for sustainability and long term business success. While mainstream investors generally analyze financial performance on a quarterly basis, it takes more than a quarter (and typically more than a year) for companies to harvest the benefits of their sustainability efforts. The business benefits of a successful sustainability strategy include enhancing reputation, building future markets, and preparing for future resource constraints. This strategy requires near-term costs that can only be adequately assessed with a long-term perspective. In addition, a long-term investment is better aligned with the business cycle, where R&D, capital investments and other strategic changes require more than a quarter to achieve payoff. While short-termism has made the public equity market more volatile and widened the gap between corporations’ market price and their actual value, long-term investors offer companies the opportunity to realign their strategies with the real needs of their business.
Two key drivers are leading the trend of ESG integration into investment decisions.
- Demand from asset owners is rising. Globally, asset owners, including pension funds and insurance companies, are leading the way by adopting ESG integration strategies for their entire portfolios. In the United States, 85 percent of investors cite “client demand” as the main reason for integrating ESG into their investment decisions. In Europe, 81 percent of institutional investors believe that ESG integration is in the interest of fiduciary duty.
- ESG indicators are increasingly seen as material. When a growing percentage of a company’s market value can be attributed to intangible assets, mainstream investors are increasingly looking at ESG performance as a way to improve their financial performance. According to the International Integrated Reporting Council (IIRC), this has increased from 17 percent to 80 percent between 1975 and 2010 for S&P 500 companies. This means there is a need for a wider set of indicators to help investors identify potential risks and opportunities. ESG indicators provide ways to help illuminate the intangibles and identify risks and opportunities that are often missed by traditional metrics. In fact, strong ESG indicators are typically a good gauge for quality senior management, strong risk management and strategic planning. Companies that invest in sustainability typically do so because they have a deep understanding of the complex global, cultural and operating environment in which they work. Therefore, companies with strong ESG performance have a higher capacity to adapt to change, lower their capital constraints, and lower their cost of capital.
Sustainable investing therefore provides a great opportunity for companies like GE—as both a financier and a recipient of investment—to understand ESG considerations and integrate them across a wide range of financing decisions, as a way to understand the long-term sustainable context of a project or investment, identify new opportunities and better manage risk.
 PRI, 5 Years of PRI: Report on Progress, 2011.
 Social Investment Forum Foundation, Report on Socially Responsible Investing Trends in the United States, 2010.
 Novethic, European Asset Owner’s ESG Perceptions and Integration Practices, 2010.
 International Integrated Reporting Council, Towards Integrated Reporting: Communicating Value in the 21st Century, 2011.
 M. Fulton, B. M. Kahn, and C. Sharples, Sustainable Investing: Establishing Long-Term Value and Performance, DB Climate Change Advisors, Deutsche Bank Group, 2012; Generation Investment Management LLP, Sustainable Capitalism, 2012.