Executive Summary : WFE study on exchanges and sustainable investment
Markets for environmentally sustainable and socially responsible investment
Many exchanges are adopting proactive commercial strategies in response to growing investor interest in environmental, social and governance (ESG) issues and global sustainable development challenges such as climate change, according to a new report published this month by the WFE.
The report was commissioned in late 2008 from the specialist advisory firm Delsus Limited and reveals that WFE’s 51 member exchanges are becoming increasingly active in three main ‘sustainable investment’ themes:
- Raising ESG awareness and standards among listed companies;
- Information products and services for sustainable investors; and
- Specialised markets for specific sustainable investment niches.
Sustainable investment in a nutshell
Over the last five years or so, social and environmental risks and opportunities (together with corporate governance) have emerged from a long incubation on the fringes of the mainstream investment industry to become commonplace long-term investment themes in the world’s capital markets.
For example, according to the US Social Investment Forum, roughly 11 per cent of assets under professional management in the US are now involved in socially responsible investment. Eurosif estimates that socially responsible investment assets represent over 17 per cent of the asset management industry in Europe. Over 170 pension funds and other asset owners – with combined assets under management of around US$18 trillion - have now signed the UN Principles for Responsible Investment (PRI).
A key driver behind these trends is the growing political and economic prominence of climate change, together with market-based incentives for the transition to a lower-carbon future. Labour standards, human rights, product safety, human capital and poverty reduction are also major issues.
The basic hypothesis behind these powerful trends in sustainable investment is that ESG factors in an economy, sector or company play an increasingly important part in creating or eroding shareholder value. Beyond this business case rationale, many investors and stakeholders also argue a compelling case for treating sustainable development as a straightforward matter of good corporate citizenship and enlightened self-interest.
Participants in the broad sustainable investment market include pension funds and other institutional investors; hedge funds; retail investors; and high net worth individuals and family offices, together with a wide range of advisors, intermediaries, asset managers and other links in the value-chain. There are three main sustainable investment strategies:
- “Socially responsible” or “ethical” investment funds that use corporate social responsibility (CSR) as a positive or negative filter in portfolio construction. This is sometimes combined with shareholder activism.
- “Green” investment strategies specialising in companies that provide solutions to sustainable development problems e.g. clean technology, renewable energy, environmental services, healthcare.
- “Mainstream” integration of non-traditional financial factors (including ESG factors) into financial analysis, portfolio construction and share ownership. This is often combined with shareholder engagement.
This market trend is mirrored in many of the world’s publicly listed companies and their strategic management of issues such as climate change, clean technology, labour standards and human rights. Companies (and their investors) recognise that factors like these can be essential to innovation, productivity and market growth as well as to risk management and brand value. Policy-makers, legislators, regulators and accounting standards boards are also focusing on sustainability issues in the corporate and investment spheres.
Relevance to exchanges
All of this translates into some important strategic and commercial questions for exchanges:
- How can an Exchange help ensure that the market efficiently meets the new ESG-related information needs of investors, analysts and companies?
- Can ESG issues contribute to the badge of quality, integrity and transparency conferred on companies by listing on the Exchange and to the overall profile of individual markets?
- Can the Exchange help to raise corporate awareness and management practices among listed companies?
- Can the Exchange add value by introducing investors and issuers to one another on theme of sustainability excellence?
- Can the Exchange create new listing and trading products geared to specific sustainable investment niches?
- How can Exchanges help to shape the way that regulatory conditions and reforms facilitate ESG transparency and sustainable investment flows?
Many exchanges have taken innovative steps to anticipate and respond to these new opportunities. Their initiatives range from measures to improve information efficiency through sustainability indices and disclosure guidance, to specialist listing and trading platforms.
Raising ESG awareness and standards among listed companies
Several exchanges – many of them in emerging markets – have taken initiatives in recent years that are designed to raise issuing companies’ awareness and/or to promote or require better transparency and disclosure on ESG-related performance and risk factors.
About Dan Siddy
Dan Siddy is the Founder and Managing Director of Delsus Limited, a UK-based consulting and advisory firm specialising in sustainable investment and environmental finance. He is an acknowledged international authority on the environmental, social and governance (ESG) aspects of investment in emerging markets and has been closely involved in most of the major developments in this field over the last 10 years. His experience and networks span portfolio investment, private equity, banking and international development.
Dan has been both a formal and an informal advisor on ESG issues to the WFE for several years, and has spoken at a number of WFE conferences and events. An active member of the UN Principles for Responsible Investment (PRI) network, his current initiatives include helping PRI, the National Stock Exchange of India and leading European and US pension funds to collaborate on a “responsible investment in India” capital markets day to be held in Mumbai in September 2009.
Dan founded Delsus Limited in 2006 following a long career with the World Bank Group. The firm provides bespoke sustainable investment services in three main areas: strategy and policy; product development and business generation; and operational support at the transaction level. Clients include the World Federation of Exchanges, the International Finance Corporation, the InterAmerican Development Bank and a number of confidential private sector clients in the asset owner and asset management sectors.