Why it pays to make finance sustainable

By Jonas Borglin, CEO, The New Division 

In September 2019 more than 45 CEO’s together with the UN Secretary-General launched the Principles for Responsible Banking. Already incorporating more than 130 banks from 49 countries, representing more than $47 trillion in assets,these Principles aim to provide the framework for a sustainable banking system, and help the industry to demonstrate how it makes a positive contribution to society.

It is the latest step forward by a finance sector that is rapidly gaining awareness of firstly how capital can be a driver for sustainable transformation, and secondly of how making more sustainable investments can be a significant source of competitive advantage for their funds.

Portfolio performance and investor demand 

Partly this is an issue of portfolio performance,Fund managers need to mitigate the risk of being left with an investment that falls foul of increasingly stringent laws around environmental impact, supply chain conditions, performance in sustainability areas, and so on. However, for most the calculation ought to be around the greater value that investments in sustainable projects and organisations are likely to yield.

Recent research from Morningstar examined the net return of funds domiciled in Europe to see if this theory holds true in practice. It found that more than 34 per cent of sustainable funds appeared in the top quartile of their category in the year to June and about 63 per cent made it into the top half.

For retail funds an even greater impetus comes not from portfolio performance, but from investor demand. According to the recent EY report ‘Sustainable Investing: The Millennial Investor’, the value of assets under management in funds that focus on sustainability as a key selection criterion has grown annually by 107.4% since 2012. With millennials set to inherit more than $30 trillion, sustainable investments will continue to grow in demand.

This is a market opportunity that few fund managers can afford to ignore. Furthermore, developments at the highest level of government are making action in this area increasingly visible and are therefore hard for funds to avoid.

European transparency and the Asian transformation

 In March 2018 the EU Commission launched its Sustainable Finance Action Plan which has since led to the creation of an EU taxonomy for sustainable activities, which will provide increasing consensus on whether an economic activity is to be classified as environmentally sustainable.It also created the EU Green Bond Standard which will encourage market participants to issue and invest in EU green bonds. Finally, the EU Climate Benchmarks will enhance disclosure requirements, and so make benchmarking information more transparent and comparable.

It will not be long before funds that continue to ignore these issues are rejected by investors, and investments that have neglected these issues lose their value. Already this happening, most notably in the infrastructure investment in Asia.

Population growth and increasing urbanisation in Asia will require between $20tn and $30tn in infrastructure investment over the next 15 years. Perhaps in recognition of the fact that around 70 of the 100 most polluted cities in the world are in Asia, the Asian Infrastructure Investment Bank has a mandate to screen its bond investments based on ESG investment principles.

Enhanced decision-making 

There is a final driver here: a focus on sustainability will make the financial services industry better at making decisions.Today many investment managers look at annual reports to understand risk, but when it comes to sustainability strategies, technologies, opinions, impacts, and possibilities the move is so rapid that this retrospective look is rendered largely irrelevant. What an organisation has done in the past to mitigate its environmental impact is no real indication of what it will do in the future.

Thisis a significant shift in mindset for fund managers. The decision is not which of a range of possible investments can demonstrate the best track record in sustainability; it is which has the potential for the greatest impact through transformation. This is not about investing in green businesses, it is to a large extent about picking brown business that can change and then exerting influence to encourage that change and create positive impact.

This will involve fund managers building their skills at asking questions and spotting which actions will ensure sustainability becomes a source of competitive advantage rather than a risk. Importantly, losing the dependence on historical report aggregators, and developing their questioning skills will bear fruit far beyond the sustainability agenda.

 Success stories 

Sustainability is no longer a marginal interest; it is right at the core of some of the most significant investment decisions in the world. And there is a growing number of funds that can point to a strong sustainability position and impressive returns.

Look at start-up Trine, which is really gaining momentum thanks to its sustainable approach. It is giving clients opportunities to invest directly into solar energy projects in developing countries. OrSPP where a certain percentage of each fund is invested in renewable energy.

Then there is Summa Equity that invests to solve global challenges using the UN Global Goals as its compass, both as investment strategy but also for impact measures.These and others are all giving sustainability values the same priority and attention as financial values. Sustainability is part of core business in the investment portfolios.

 Getting started 

For funds that are keen to emulate this success, the time to act is now. This is a risk averse sector, and the idea of looking at a triple bottom line is still new, but there is no longer any time to wait and see. The pressure is on from customers, policy makers and other stakeholders to act. Furthermore, if the traditional players in this sector don’t act then new fintech rivals will – and will start taking market share.

Beyond, that, as you pivot, your investment strategy, communicate what you are doing. A growing number of organisations are tying their investment strategies to an international agenda such as the UN Global Goals. These enhance the strategy and deliver more widespread recognition.

However you do it, find a way to present what you are doing on these complex issues in a way that is simple and engaging, it will attract support and investment. Not only will your position on sustainability become a source of competitive advantage, but your capital investments will be driving a positive transformation in the world.