The Responsible Asset Allocator Initiative at New America, in partnership with the Fletcher School at Tufts University, has released its 2021 rankings of the 30 world-leading responsible, sustainable long-term investors. Scott Kalb, director at RAAI and former CIO at KIC explains the process which looked at 251 asset allocators from 63 countries, and what distinguishes the leaders globally.

It has become fashionable of late to bash ESG investing.

“Investors pursuing virtuousness, may at best be deluding themselves and at worst, doing more harm than good,” warned the Economist in an article on September 4, 2021, stating that responsible investing practices may promote “poor returns and a flabby corporate sector,” even suggesting they could “derail the capitalist model.”

This bashing is as nonsensical as it is sensational. Sure there are problems with ESG implementation, especially when it comes to protecting retail investors.  For example, greenwashing by corporations and asset managers has become a problem and regulators need to step in and set proper reporting standards.  But such challenges should not be used as an excuse to deter ESG investing, particularly by large asset allocators such as pension funds and sovereign funds, who have the scale, resources, and expertise to make a difference. We should instead encourage them to take greater action.

It is in this context that the Responsible Asset Allocator Initiative (RAAI) at New America, an organization dedicated to mobilizing capital toward sustainable and responsible investing and toward achieving the Sustainable Development Goals, has just released The 2021 Leaders List: The 30 Most Responsible Asset Allocators, a ranking of the world’s top sovereign wealth funds and government pension funds on their responsible investing practices. The study, developed in partnership with the Fletcher School at Tufts University, rates and ranks 251 asset allocators from 63 countries with assets of $26 trillion, to identify the 30 leaders and 22 finalists (the top quintile) that together set a global standard for leadership in responsible, sustainable investing. This year’s ranking builds on the groundbreaking RAAI reports released in 2017 and 2019.

RAAI researchers have found that top asset allocators are implementing ESG not out of “virtuousness” but rather out of practicality. These institutions see responsible investing as a vital tool to manage systemic risks and generate long-term, risk-adjusted returns for savers. Traditional financial metrics are useful in managing short-term idiosyncratic risks in portfolios, but they fall short in pricing and managing long-term systemic risks such as climate change or income inequality.  Modern portfolio theory focuses on diversification as a key method to protect portfolios, but systemic risks cannot be easily diversified. Accordingly, leading asset owners are adapting their investment decision-making process and using ESG to identify and price long-term risks, engage with portfolio companies, and manage risk-adjusted returns more effectively.

The RAAI leaders and finalists provide a window into the future of investing, a world where the planet’s largest investors are addressing the world’s greatest challenges. These top performers are unleashing hundreds of billions of dollars to invest in renewable energy, clean technology, and sustainable infrastructure, while improving access to clean water, affordable housing, healthcare, and education.

For the 2021 RAAI Leaders List Report, researchers expanded the scope of coverage, evaluating 634 asset allocators and rating 251 institutions, up from 471 and 197 institutions, respectively, in 2019. The number of rating criteria increased from 20 to 30, raising the bar to a minimum score of 96 per cent for the 30 asset allocators that were selected for inclusion on the prestigious leaders list. The 22 asset allocators selected as finalists, were not far behind the leaders, needing a minimum score of 92 per cent to be included in the top quintile.

Key findings from the 2021 RAAI study:

  • The UK has the greatest number of asset allocators on the leaders list with five, followed by four from the US and three each from Australia and Canada.
  • Overall, Europe is the best performing region.  The 62 rated asset allocators in Europe have an average score of 78 per cent. Europe accounted for half of the top quintile asset allocators.
  • Responsible investing is advancing across the world but slowly and from a low base. There is scope for substantial improvement. The average score for all world asset allocators increased from 44 per cent in 2017 to just 52 per cent in 2021.
  • The leaders and finalists continue to set the bar for responsible investing, widening the gap with the rest of the world. The top quintile shows an average score of 96 per cent. The other 200 rated asset allocators showed an average score of just 40 per cent.
  • The world’s two biggest economies, the United States and China – comprising 40 percent of global GDP – are lagging dangerously behind on responsible investing. The average score for the 82 USA asset allocators rated by RAAI is just 34 per cent.

The RAAI leaders list is a unique group, representing 15 countries and five geographic regions, including Africa, Asia, Australasia, Europe, and North America. With $7.9 trillion in AUM, the leaders exert enormous influence in global capital markets and can serve as a powerful force for change.

THE 2021 RAAI LEADERS LIST (in alphabetical order)

  1. Alberta Investment Management Corp. (AIMCo) (Canada)
  2. AP Funds (Sweden)
  3. APG Groep (Netherlands)
  4. ATP Group* (Denmark)
  5. AustralianSuper (Australia)
  6. Aware Super* (Australia)
  7. BCI (Canada)
  8. Brunel Pension Partnership* (UK)
  9. Caisse des Dépôts et Consignations (France)
  10. CalPERS (USA)
  11. CalSTRS (USA)
  12. CDP Group, SpA* (Italy)
  13. CDPQ (Canada)
  14. COFIDES* (Spain)
  15. ERAFP (France)
  16. Government Pension Fund – Global (Norway)
  17. GPIF (Japan)
  18. Ireland Strategic Investment Fund* (Ireland)
  19. LGPS Central* (UK)
  20. London CIV* (UK)
  21. New York State Common Fund* (USA)
  22. New Zealand Superannuation Fund (New Zealand)
  23. PensionDanmark (Denmark)
  24. PGGM (Netherlands)
  25. Public Investment Corp. (South Africa)
  26. Railpen (UK)
  27. UC Regents Investment Funds (USA)
  28. Unisuper* (Australia)
  29. United Nations Joint Staff Pension Fund (Global)
  30. USS* (UK)

* New addition to the leaders list in 2021

Click here for further information on 250 asset allocators rated by the RAAI

Click here for a PDF of the 2021 RAAI Leaders and Finalists

 

Scott Kalb is director, The Responsible Asset Allocator Initiative at New America.

The Responsible Asset Allocator Initiative is focused on mobilizing capital from the world’s largest institutions toward responsible investing and the achievement of the Sustainable Development Goals of the United Nations. It is a window into the future of investing, a world where global savings institutions deploy funds not only to achieve financial returns but also to address the broader social and environmental challenges we face today. The RAAI was founded at New America, an organization dedicated to renewing America by continuing the quest to realize the nation’s highest ideals, honestly confronting the challenges caused by rapid technological and social change and seizing the opportunities those changes create.

Amanda White, director of institutional content at Conexus Financial, dives into the past, present and future of responsible investment with PRI’s founding executive director, James Gifford, and current outgoing CEO, Fiona Reynolds.

In this candid conversation, they reflect on the genesis of the PRI mission, where we are today and trends and challenges going forward for the responsible investment industry from both an integration and impact lens.

 

 

What is the Fiduciary Investors series?

The COVID-19 global health and economic crisis has highlighted the need for leadership and capital to be urgently targeted towards the vulnerabilities in the global economy.
Through conversations with academics and asset owners, the Fiduciary Investors Podcast Series is a forward looking examination of the changing dynamics in the global economy, what a sustainable recovery looks like and how investors are positioning their portfolios.

The much-loved events, the Fiduciary Investors Symposiums, act as an advocate for fiduciary capitalism and the power of asset owners to change the nature of the investment industry, including addressing principal/agent and fee problems, stabilising financial markets, and directing capital for the betterment of society and the environment. Like the event series, the podcast series, tackles the challenges long-term investors face in an environment of disruption,  and asks investors to think differently about how they make decisions and allocate capital.

Based on empirical evidence alone, funds that insource or internalise end up with better outcomes, both on a net and gross value-added basis, according to CEM Benchmarking data which draws from the evidence of some 300 funds in 17 major pension markets around the world representing $11 trillion of assets.

Performance numbers support the move for funds to bring investment management inhouse, however funds considering a move towards internalisation will need to come to terms with governance changes and challenges to be successful, Mike Heale, principal at CEM Benchmarking has highlighted.

“Very clearly, you have to be ready for the challenges of having a lot bigger and more complex organisation to manage,” Heale says.

“Governance, independence and quality… culture, talent, compensation. You have to think through all the challenges of how internal and external management will coexist and be managed within your organisation,” he says.

Funds can add the most value by bringing active management in house, CEM data reveals. The degree of internalisation and to a lesser extent scale of a fund can also add value for funds pushing further down the internalisation path.

The CEM data reveals that funds tend to pull the trigger on movements towards internalisation at around the $40 billion-dollar mark, even though Heale suggested that funds smaller than $40 billion could benefit from taking investment management inhouse.

The larger funds get, the more they’re likely to internalise a greater portion of their funds, the CEM data shows.

Source: CEM Benchmarking

 

Despite the empirical evidence supporting the move to internalisation for funds of a certain size, Heale left the door open for funds to consider preserving the outsourcing model however. Some notable examples of funds not insourcing include Australia’s  HostPlus and US based Washington State Investment Board, both of which have continued to achieve strong outcomes by engaging external managers.

“There are some large funds that could internalise that, for a variety of reasons, have primarily external models that have been extremely successful. And, you know, they’re generating very good results, and they’ve got good expertise in picking managers,” Heale pointed out.

 

“Some of that is related to the governance constraints… because if you can’t align and you don’t believe that you can get success and it’s not going to be possible to pay your people what’s required to do it then you’re probably better off to stick with what you know and what has proven to be successful with you in the past,” he said.

“Not every fund that embraces internal management have outperformed… But again, the weight of empirical evidence is on your side that you should expect some outperformance if you implement well,” he said.

Africa’s largest pension fund has redrawn its mandate with its asset manager PIC introducing a clause around consequence management that leaves the PIC liable in the event of inappropriate investment decisions. Elsewhere the fund has just raised the ceiling on its ability to invest more overseas.

Earlier this year, South Africa’s Government Employees Pension Fund, GEPF, completed a review of its mandate with the government-owned asset manager the Public Investment Corporation, PIC, guardian of 82 per cent of GEPF’s R2.09 trillion portfolio. The probe followed a Judicial Commission of Inquiry into allegations of impropriety and political interference at the PIC during Jacob Zuma’s presidency.

A revised mandate will now include new conditions including stipulations around consequence management that leave the PIC liable in the event of inappropriate investment decisions; better disclosure of the PIC’s investment decision making processes and ESG integration, and scrutiny of its fee model in the unlisted portfolio.

“The Commission of Inquiry report said we needed to build into our mandate and redraw the contractual agreements with the PIC. The GEPF board is comfortable that the revised mandates and enhanced monitoring capability will provide better oversight,” says Musa Mabesa, principal executive officer at GEPF.

The concerns of the judicial inquiry focused particularly on the GEPF’s 5 per cent allocation to unlisted investments via mandates with the PIC and a clutch of external asset managers managed by the PIC. “There were weaknesses in the governance processes and approvals needed to be tightened at the PIC,” said Mabesa who was the head of corporate services prior to taking the helm a year ago and who has no illusions of the challenges of heading the largest pension fund in Africa. Peer fund insights into how to manage managers offer valuable insights, like a 2019 benchmarking exercise that explored operations between the Netherlands’ ABP and its asset manager APG. “Our vision is to be the best in class,” he says.

Elsewhere, governance has been boosted by the PIC swearing in a new 12-member board and the asset manager “re-introducing” important positions: chief investment officer, chief risk officer and chief technology officer.

In another important governance seam Abel Sithole, previously in charge at the GEPF, is now CEO and executive director of the PIC.

“We welcome the appointment of Sithole, but we are also fully aware that he can’t do it alone,” says Mabesa.

The governance overhaul has mollified talk of the GEPF mandating to other asset managers or building out its own internal processes.

“The PIC remains our appointed manager and we don’t anticipate changes,” says Mabesa. GEPF manages a tiny 1 per cent allocation to private equity across Africa and the fund’s 9 per cent allocation to foreign equities and bonds is mandated to JP Morgan, Goldmans and BlackRock.

Change is also less likely given the GEPF’s latest results, bathed in the glow of economic recovery. The pension fund returned a net 23.1 per cent for the year led by returns in local equity (44 per cent) local bonds (19 per cent) and offshore equities (24 per cent) with property the only laggard.

Change ahead

But this year’s results belie the challenge of GEPF’s reliance on the Johannesburg Stock Exchange. The fund has a 50 per cent allocation to local equity (80 per cent of which is passive) in an allocation dictated by heavyweight corporates in the index strategy.

Since GEPF currently invests less than 10 per cent overseas (just extended to a 15 per cent ceiling) there is headroom to diversify outside South Africa, but Mabesa doesn’t envisage any drastic change at the moment and says the home bias is due to GEPF’s asset liability model, and continues to serve the fund well.

“It’s a long-term strategy; we won’t make changes to the strategy based on short term events. Last year markets crashed, however three months later bounced back and the same equities that lost money recovered. We will monitor strategy in line with our liabilities and will only change if our liabilities change.”

Still, the prospect of slow economic growth ahead is one of his chief worries given the fund’s overwhelming dependency on the local economy.

“If the economy doesn’t grow, we will struggle,” he admits.

Nor does GEPF have any plans to build out its allocation to private assets.

“A 4-5 per cent allocation to private assets is relatively small, but in rand terms it is a lot of money, especially as the value of the fund grows,” says Mabesa. This despite his acknowledgement of growing unlisted opportunities in Africa’s fintech and renewable energy space.

“All changes to strategy will have to go through the board of trustees and take into consideration the fund’s rand-based liabilities,” he concludes.

Professors at Oxford University, Richard Barker and Bob Eccles, outline the key factors for success of the International Sustainability Standards Board, which was announced at COP26. They say investors need to visibly and vocally encourage both companies and regulators to support the ISSB. 

On November 3 at COP26, the IFRS Foundation (the Foundation) formally announced the formation of the International Sustainability Standards Board (ISSB). It also communicated that it “will complete consolidation of the Climate Disclosure Standards Board (CDSB—an initiative of CDP) and the Value Reporting Foundation (VRF—which houses the Integrated Reporting Framework and the SASB Standards) by June 2022.” The ISSB will also build on the work of the Task Force on Climate-related Financial Disclosures (TCFD).

In addition to this organizational work, the Foundation announced the publication of two prototype disclosure requirements: the “Climate-related Disclosure Prototype” and the “General Requirements for Disclosure of Sustainability-related Financial Information Prototype.” These were developed by the Technical Readiness Working Group (TRWG) and are the first two of eight deliverables in a well-structured program of work which will lay a strong foundation for sustainability disclosures that are as rigorous and relevant as those we have for financial reporting.

We couldn’t be more delighted with this monumental step in providing the information investors need to make long-term capital allocation decisions to support sustainable enterprise value creation. It is more than we hoped for when we published our Green Paper “Should FASB and IASB be responsible for setting standards for nonfinancial information?” just three years ago.

Disclosure standards protect investors and support the integrity of the global capital markets. Accordingly, the establishment of the ISSB has already received global support, from IOSCO, the international body that brings together the world’s securities regulators, and from the G7, G20, and the FSB. The ISSB has also been endorsed by major companies and global investors, as the path to the needed global sustainability standards baseline. It will be advised by the multilaterals (OECD, IMF, UN, and the World Bank).

There remain some voices, however, who are not as enthusiastic as we all are. Such critics object to the very name of the ISSB, decry its focus on the intersection between sustainability and enterprise value, complain that there is no conceptual framework, and seem to generally wish it the worst. To them we say, “The ship has sailed. You now have two choices. Accept this reality and constructively engage or continue to carp while the rest of us get on with this important work.”

Given this context, we think there are four key factors that will determine the success of the ISSB.

The first is effectively integrating the VRF and the CDSB into the IFRS Foundation, including establishing a working relationship with the International Accounting Standards Board (IASB). VRF and CDSB are relatively small and nimble entrepreneurial organizations, and necessarily so given the plethora of emerging sustainability issues on capital markets. The IFRS Foundation, in contrast, is a well-established body with appropriately deliberative processes. These organizations have different cultures and people with different skills. There will also be the challenge of coordination across geographies, including Frankfurt, Montreal, London, San Francisco and Asian locations to be named. Yet, while merger integration is always challenging, there are strong reasons to be optimistic. All organizations in the merger have a strong sense of shared mission. All are operating from a common definition of materiality based on enterprise value creation. And an appropriate level of funding is being put in place so that the ISSB has the financial resources necessary to do its job.

Second is the strong engagement of investors, companies, auditors, and regulators. Investors need to visibly and vocally encourage both companies and regulators to support the ISSB. Early news is encouraging based on the investor responses to the IFRS consultation and announcements. Most recently, the 62 members in 12 countries and with over $52 trillion in assets under management of the SASB Standards Investor Advisory Group have expressed their strong support for the ISSB and its plans to use SASB’s standards as a basis for industry-specific requirements, to be developed through the global due process for which IFRS is known. It is the responsibility of companies and their auditors to implement the ISSB’s standards. They must prepare themselves to do so. Finally, while the ISSB can establish standards, it cannot mandate their use. This is no different than with IFRS accounting standards. Jurisdictions around the world, in their own ways, must support the ISSB through their rules and regulations on corporate reporting. The G20’s position is a great start. The UK has already said it will create a mechanism to adopt and endorse ISSB-issued standards. The ISSB’s commitment to industry-specific disclosures is also headed in the right direction. IOSCO has called out the importance of industry-specificity. Its role to bless standards for cross-border use also makes their strong support of the ISSB notable.

Which gets us to the third key success factor — coordination with jurisdictions involved in their own standard setting efforts, in particular the EU and the US. The EU is looking to pass legislation for its Corporate Sustainability Reporting Directive (CSRD). The SEC is likely to be issuing some rules on climate disclosure later this year or early next. What is important is for common topics, such as greenhouse gas emissions, to be reported on in the same way. Ideally, the ISSB will set the “global baseline” that the EU will add to, and the US will aspire to. This is what some of the largest EU companies have already said they want. In the European context, this global baseline must serve investors’ information needs in a way that complements the EU’s “double materiality” approach.  We value voices calling for information on a company’s sustainability performance that is not currently related to long-term enterprise value creation, a demand that can be met by regulation from a state actor like the EU, or by companies voluntarily reporting using standards from NGOs such as GRI. Nothing in the ISSB’s standards will prevent companies from reporting on additional sustainability matters that, for whatever reason, are not material to investors. Nor does the ISSB’s proposition prevent jurisdictions, such as the EU, from mandating disclosure on a double materiality basis. Those who advocate for double materiality should focus on advocating governments to mandate additional disclosure requirements.

Finally, it is important for the ISSB to get off to a good start. This means participation by all relevant stakeholders in the ISSB’s due process to establish standard-setting priorities, develop a conceptual framework, and expose prototypes and draft standards for public comment.  The work of the TRWG has given the ISSB a strong “running start” on all of these items, but it is important to note that the TRWG prototype disclosure requirements are not formal exposure drafts, let alone final documents as some have implied. Rather, they are recommendations with formal consultation and board deliberation to follow, thereby following the same rigorous due process used by the IASB.

Three years from our Green Paper we now have the ISSB. Three years from now we are confident the world will have an effective ISSB that has the strong support of investors and companies, and institutional legitimacy from regulators. The work of the ISSB will improve capital allocation decisions by both companies and investors. Is it a silver bullet? Of course not. But the world will be a far better place with the ISSB than without it.

Richard Barker is Professor of Accounting and Deputy Dean and Robert G. Eccles is Visiting Professor of Management Practice at Said Business School at Oxford University.

 

 

 

 

In its latest position paper, Australia’s Future Fund outlines its investment approach in a new investment landscape characterised by the end of 60:40 portfolios, inflation, declining corporate earnings and climate change – amongst others.

Australia’s Future Fund, the $245.8 sovereign wealth fund, plans to modestly increase its structural risk profile to better target its 10-year benchmark of 6.1 per cent desired returns while continuing to appropriately moderate risk. In the year to June 30 it raised its risk profile and this will continue [See Future Fund adds risk and generates best ever return.]

In its latest position paper the fund also details plans to develop its models and governance to better combine its long-term investment strategy with the ability to move flexibly. Elsewhere, the fund notes an increased illiquidity tolerance given the current investment environment favouring skill-based returns that are worth the higher fees.

The plan is to also apply additional resources to identify and pursue high conviction value-add exposures particularly in private markets and debt. Private markets provide inflation protection and defensive characteristics, but the fund also sees public markets adding value via strategies that closely manage the use and costs of illiquidity.

Future Fund’s latest analysis of its investment approach is the consequence of significant changes catalysed and accelerated by COVID-19 that are creating a new investment order. Expect lower returns, more inflation risk, more divergence, conflict and market fragility, the fund argues. The current investment environment will also test long held assumptions and question the conventional wisdom that has guided the fund since it was established in 2006.

“We believe that the investment thinking that has delivered strong returns over recent decades needs to be revisited,” writes the fund. “We believe that preparation and monitoring the investment environment and testing our thinking and the assumptions on which it is built, are the best ways we can position our investment program to generate strong returns, with acceptable risk, over the long-term.”

It’s led the fund to consider a variety of plausible scenarios and consider how it can evolve and position the portfolio to be as robust as possible in those scenarios. All the while playing to its key characteristics and advantages of having a long-term investment horizon, a total portfolio approach and the ability to partner with high calibre investment organisations globally.

Paradigm shifts

The paper highlights paradigm shifts that are shaping the investment order in ways that should encourage investors to think afresh about their portfolios.

Deglobalisation is replacing globalisation as the hitherto free movement of goods and services, investment and people across national borders slows and in significant cases reverses. It’s resulted in tensions between the world’s two largest economies while technological developments are more closely guarded as part of national security policy.

Countries have reasserted their national interests, controls over national laws, and put a domestic focus over and above an open international system. National economic policies have moved towards greater state intervention and controls.

Technological innovations have allowed firms to develop operating models based on intangible assets, such as data and software platforms leading to the rise of digital conglomerates. Innovation advantages have led to disruption and dispersion within industries.

Many developed markets face ageing populations and have been reliant on migration to counter population contraction and ageing. Asset inflation has exacerbated wealth inequality between generations. In developed countries younger people may experience disadvantage in security of employment, house prices, higher education debt and record levels of national debt.

Physical climate risk has become more severe over time. Insured losses from natural disasters have increased from around $10 billion per annum in the 1980s to $45 billion in the last decade (inflation adjusted). Direct overall losses have been four times the size of insured losses and have increased approximately threefold in the last 30 years. Companies with carbon-intensive operations and value chains are potentially vulnerable to market repricing. Renewable energy is becoming cost competitive with traditional generation sources.

In the US corporate earnings have increased from around 5 per cent of GDP in 1990 to 8-10 per cent today. This has been driven by the use of technology and innovation to drive productivity improvements from intangible assets, capital friendly tax arrangements, restructuring, offshoring and automation which has reduced costs. If these trends come to an end, or reverse, (perhaps as a result of deglobalisation and populism) and without new sources of growth, expect downward pressure on earnings and equity returns in the decades ahead.

The forces that have brought inflation under control have ebbed or are now in reverse and the response to the financial crisis of 2008 and to the more recent pandemic have added to government debt burdens. Fiscal stimulation has added to burgeoning entitlements which can only be met by pro-inflationary policy.

In the aftermath of the financial crisis, institutional independence has been eroded through the introduction of measures such as Quantitative Easing, yield curve controls and other forms of central bank intervention in government funding markets in an effort to induce or support fiscal spending. The pandemic has further accelerated this shift.

As monetary policy reaches its limits and technological disruption provides scale with its low capital expenditure requirements, the traditional economic cycle is under threat and traditional metrics for assessing fair value are being challenged. There is an argument that the base rate and risk premium component of risk asset discount rates should be structurally lower – and valuations structurally higher than they have been through modern financial history.

Government bonds have been the defensive anchor of investment portfolios for over 30 years with the traditional 60/40 equity bond portfolio relying on negative correlation between the two asset classes. Nominal bond yields are significantly lower so the scope for bonds payoff is reduced. Investors have ended up paying to benefit from bond rallies rather than being paid. If inflation begins to rise the bond-equity correlation may prove much less beneficial going forward.