The evolving ESG context – advice client conversation guide
The relentless growth of ESG investing over the last few years is well documented. And, notwithstanding several ‘bumps in the road’, the sector has been forced to contend with during 2022, there are many leading indicators – including consumer sentiment, fund flows, ESG hiring and new product launches – suggesting this growth is expected to continue unabated.
Indeed, a Dow Jones Survey of US Financial Leaders[1], the results of which were released in September 2022, projected ESG investments to double between now and 2025. And locally, the 2022 Benchmarking Report released by the Responsible Investment Association of Australasia (RIAA) found the value of Australian assets managed within a responsible approach had grown to AUD $1.5 trillion, representing 43% of the total investment market[2].
Unsurprisingly, financial advisers have recognised the long-term and irreversible nature of this trend and are now seeking to build their skills and develop their offerings in this specialised space. Yet uncertainty remains, especially about how to best incorporate ESG investing into client conversations, advice processes, portfolio construction techniques and compliance obligations.
The challenges of 2022, a year where most ESG funds underperformed the broader market, and in which ESG sceptics were given new voice, have created an extra level of complexity – and perhaps an additional barrier – for advisers.
In this article, we will explore the topic of client conversations on ESG investing, examining the ever-evolving ESG context and the deeper nuances within this context. Readers will then be provided with a framework in which to develop their own approach to ESG conversations – initial and ongoing – with both new and existing clients.
Speak the language
The first step in preparing for more effective conversations around ESG investing is to be clear about the language used. This is easier said than done, as the sector is characterised by a lot of jargon, some of which is used interchangeably (correctly and incorrectly).
Take the term ESG for example. And what about the terms responsible investing, sustainable investing, ethical investing and impact investing?
Well, starting with ESG, it’s important to firstly differentiate between ESG integration, which can be thought of as an extra form of risk analysis conducted before investing in a stock, and ESG as an objective, which means investing in ways that achieve desired environmental and/or social objectives.
According to the RIAA, this second form of ESG investing falls under the umbrella of responsible investing (RI), a term it uses interchangeably with ethical investing and sustainable investing. They define responsible investing as “a broad-based approach to investing which factors in people, society and the environment, along with financial performance and risks when making and managing investment”[3].
It’s also important to understand the spectrum of responsible investing. Figure 1 below shows this spectrum, bookended by traditional investing (which takes no account of ESG considerations at all) at one end, and philanthropy (where there are no financial return objectives) at the other. In between we see a range including ESG integration as well as:
- Exclusionary or negative screening – where certain sectors, companies or geographies are screened out for being inconsistent with core values
- Norms based screening – excluding companies on behavioural or governance grounds
- Corporate engagement – actively using power as a shareholder to shape company behaviours in line with desired ESG outcomes
- Positive screening – proactively seeking out companies achieving better ESG outcomes than peers
- Sustainability themed investing – specifically targeting investment themes such as sustainable development goal (SDG) aligned; and
- Impact investing – investing to achieve specific and measurable positive social and/or environmental impacts.
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[1] https://www.dowjones.com/press-room/esg-investment-expected-to-more-than-double-in-the-next-three-years-new-research-from-dow-jones-shows/
[2] https://responsibleinvestment.org/wp-content/uploads/2022/09/Responsible-Investment-Benchmark-Report-Australia-2022-1.pdf
[3] Ibid
