Global investors have overwhelmingly urged the SEC to provide corporate disclosure rules on climate. In submissions to the SEC many investors including CalPERS and CalSTRS said the rules should be mandatory.

“At this point, it is clear that the Commission must develop mandatory disclosure rules with line-item reporting which provide issuers with clarity on what is expected by investors on climate risk reporting,” said Marcie Frost, chief executive of CalPERS in its submission.

“For investors navigating the complexity of climate change, it is essential to have detailed scenario-based corporate disclosures regarding the potential impact of both the transition and physical risks to companies’ performance across time to help investors properly evaluate potential return on investment and to make informed comparisons among investment opportunities.”

In its submission CalSTRS called on the SEC to use rulemaking to mandate universal metrics and recognise independent standards to guide industry-specific disclosures and require that from companies of all sizes in all industries.

A study of 2,585 companies by Harvard Business School found that fewer than 20 per cent disclosed all of the data-points considered necessary for environmental impact valuation, making it unreliable for investors to use and adding weight to the argument that voluntary environmental disclosure does not provide sufficient data to evaluate corporate environmental impact.

In March this year acting chair of the SEC Allison Lee, asked staff to evaluate its disclosure rules “with an eye toward facilitating the disclosure of consistent, comparable, and reliable information on climate change”. Many investors have made submissions including CalPERS, CalSTRS, Norges Bank, CPP Investments, Harvard Management Company, San Francisco City and County Employees Retirement System, Colorado PERA, and NYCERS.

CalPERS’ Frost called on the SEC to act quickly saying the current disclosure regime for corporate reporting “falls short of our expectations as investors”.

“For investors, for capital formation and in the public interest, the Commission needs to move swiftly and decisively to provide the rules which will ensure the management and mitigation of a systemic risk,” she said.

The $1.29 trillion Norwegian Sovereign Wealth fund, managed by Norges Bank, owns 1.5 per cent of the world’s listed companies, this includes $399.5 billion invested in listed US equities and $139.9 billion in fixed income in the US.

In its submission Norges Bank said that the scope and quality of disclosure varies enormously. In the US companies provide better disclosures on their approach to climate risk management than on governance, strategy, and climate-related metrics and targets.

“We have assessed companies’ reporting on climate change since 2010. Although an increasing number of companies globally report some climate-related information, the scope and quality of disclosures varies significantly. The data published by companies is often incomplete and/or not comparable,” it said. “Based on our assessments, US companies in the technology, telecommunications and retail sectors have stronger climate-related disclosures compared to firms in the automotive, banking, basic resources, construction, insurance, and oil and gas sectors.”

In Norges’ disclosure assessments 80 per cent of the US companies reported their operational carbon footprint, but less than half of the companies reported emissions related to their value chains.

Investors unanimously said that for sustainability information to support investment decisions, risk management processes and ownership activities it must be consistent and comparable across companies and over time.

Kate Murtagh, chief compliance officer and managing director for sustainable investing at HMC said the current voluntary disclosures are not of a scope, breadth, and quality sufficient for market participants and regulators to fully understand and assess relevant climate risks.

“Since undertaking our net-zero commitment, our focus has been on improving our access to reliable, actionable climate-related data. Such data is currently very limited. Much of the available data is self-reported and unaudited,” she said.

In their submissions investors said they expected companies to disclose their climate plans and to set short-, medium- and long-term emission reduction targets that take into account the goals of the Paris Agreement. This allows investors to assess companies’ readiness for the climate transition. Investors also called for scenario analysis and for companies to assess the sensitivity and resilience of their long-term profitability to different transition and physical climate scenarios.

CPP Investments said that it expects companies to disclose financially relevant, potentially material climate change related factors in order to make informed decisions.

“Climate change remains one of the largest and most challenging investment considerations of our time. Specifically addressing its impacts in our investment activities better positions us to make more informed long-term decisions with regard to profitability and shareholder value, in line with our legislative mandate of maximizing returns without undue risk of loss. We require consistent, comparable and accurate information on climate change-related risks and opportunities that is ultimately decision useful. As such, we expect disclosure of financially relevant, potentially material climate change related factors from our portfolio companies to allow us to better understand, evaluate and assess potential risk and opportunities of these factors on a company’s performance.”

No need to reinvent the wheel

CPP said that when issuers seek input, it indicates its preference for companies to align their reporting with the Value Reporting Foundation (the successor to SASB) and the Task Force on Climate-related Financial Disclosures (TCFD).

These two third-party standard setters were preferred by all investors in their submissions, with a directive from Harvard’s Murtagh for the SEC to not “reinvent the wheel”.

“The Value Reporting Foundation and the TCFD have an important, and necessary, continuing role to play in helping fill in the white space of principles-based climate disclosure rules. The SEC should not reinvent the wheel where an existing voluntary standard or framework already is aligned with the SEC’s mandate,” she said.

Similarly Norges said: “We recommend that companies report financially material sustainability information following the logic of the TCFD and using the SASB industry-specific standards. The Commission could ask companies to use these existing standards for their reporting. Finally, as a global investor, we welcome the ongoing cooperation among regulators and the work of international standard-setters, to ensure comparability of sustainability disclosures at an international level.”

CalPERS also called for the SEC to examine human capital disclosures as part of its work to modernise corporate reporting.

“We are delighted to support the Commission’s work to modernize corporate reporting which should include moving the market forward with respect to human capital disclosures including a substantially greater focus on diversity and the addition of certain identified metrics. Comprehensive, high-quality, consistent, and comparable disclosures of climate risk, charitable and political expenditures, human capital management, and board diversity are critical to the long-term success of capital markets.”

Investor stewardship is beginning to come of age. Look no further than recent global media to see that the environmental, social and governance (ESG) interests of investors are starting to be accounted for in ways they never have before.

When it comes to climate change in particular, investors are demanding tangible action from companies and their voices are being heard. The 2021 annual proxy season was unprecedented, with a record number of climate and environment related shareholder proposals put forward. Climate Action 100+, the largest ever investor-led climate engagement with more than 570 investors responsible for over $54 trillion in assets under management, has led much of the charge.

In May, we saw a dramatic shake up at ExxonMobil where a majority of shareholders voted to replace members of the board with a selection of candidates experienced in clean energy and energy transitions. This was following concerns that the company was moving too slowly to align its strategy with global climate action.

Meanwhile at Chevron Corporation’s annual general meeting (AGM), 61 per cent of shareholders voted in favour of proposals for Scope 3 emissions reductions targets. In addition, a first-time proposal for climate-related financial risk reporting nearly passed, with 48 percent of the vote.

In Australia, the case of Rio Tinto has also been notable. Institutional investors echoed global outrage at the weak response from Rio Tinto following their destruction of sacred Aboriginal caves, destroying 46,000-year-old shelters, and lobbied to remove senior executives. At the company’s AGM in May, more than 60 per cent of investors voted against the pay-outs to former executives, notably including the former CEO.

It’s clear there is a shift underway, with investors stepping up their active ownership practices.

As shareholders of companies around the world, investors have a fiduciary duty to use their influence to maximise overall long-term value. This includes the value of ESG assets, upon which returns, and their clients’ and beneficiaries’ interests ultimately depend.

At PRI we’ve been working with global investors on Active Ownership 2.0 since 2019, an aspirational standard to help usher in a more ambitious era of stewardship, whereby investors seek outcomes, prioritise systemic sustainability issues and collaborate to overcome issues of collective action. With major deadlines for action on the Sustainable Development Goals and the Paris Agreement looming, we only see this trend continuing to accelerate.

Capital is truly global, and therefore investors are and will continue to respond to international corporations with both individual and collaborative stewardship practices. Yet, not every government has grasped the inevitability and importance of this global trend. My home country of Australia is the prime example, where the Treasury recently issued proposals that would create ineffective and burdensome disclosure obligations on proxy advisors, including in the advice they provide to Australian superannuation funds.

Proxy advisors play a valuable role in the market – enabling more informed voting in a cost-effective way. Many institutional investors use proxy advisory firms’ recommendations to supplement their research and understanding of multiple, detailed and sometimes dense proxies for their portfolio. They generally provide high quality, independent analysis, linked to voting recommendations based on institutional investors’ priorities.

Without confidence in the impartiality of proxy firms’ recommendations, investors — particularly smaller and mid-size investors — would lack the capacity to synthesise the relevant information they need to determine how they will vote their proxies and would have difficulty fulfilling their fiduciary duties as a result.

Of course, more transparency and accountability for proxy advisers and how investors vote is welcome. There has been a tendency among some proxy advisers to overlook how environmental and social factors affect long-term shareholder value, and a failure to scrutinise boards for these failures. However, measures such as those proposed in Australia focus more on reducing their ability to challenge management and hold boards accountable – the precise opposite of what is needed.

Yet, the Australian government isn’t the first to venture down this road, with similar Trump-era reforms having previously been enacted in the US.  Although they are already moving to rectify this retrograde policy which is impeding investors. The Securities and Exchange Commission (SEC) chair and staff from the division of corporate finance are currently considering whether or not to recommend the Commission revisit the interpretation, guidance and rules and in the meantime have decided not to enforce them until their review is complete. By failing to learn lessons from their predecessors, the Australian Treasury’s reforms could place complex and ineffective disclosure obligations on superannuation funds that would not result in any material benefit and may add additional costs and confusion to the detriment of members.

At PRI we’ve submitted a response to the Treasury’s consultation, with key recommendations on how to move forward. Our more than 4,000 signatories, who represent, A$133 trillion in AUM,  190+ of whom are based in Australia, have committed in line with our second principle, to be active owners and to incorporate ESG issues into their ownership policies and practices. It’s our belief that investors should be using all the stewardship tools available to them to their fullest potential—including voting—to advance the systemic issues that are most critical to investors and their beneficiaries.

With a distinct lack of empirical evidence as to their rationale, it’s clear the Treasury’s reforms would constitute a backward step for responsible investors.

The proliferation of grand gestures of sustainability, such as net zero commitments, means manager due diligence is even more important and more intensive, according to global head of research at Willis Towers Watson, Luba Nikulina.

“Sustainability and climate is massive in everyone’s agenda right now,” she says. “But there is an issue of greenwashing. If you think about the net zero commitments, they are statements of intent of something that is changing very quickly and also depends on our ability as a society to innovate and come up with transition plans for carbon intensive businesses and new technologies. Could these statements be characterised as greenwashing? We need to unpack the statements and see what their beliefs are and how that translates into actions.”

The sheer extent of the commitments by players means discerning greenwashing is becoming more complicated, she says.

“Credibility is hugely important. It means an intensity of due diligence, you have to put more resources into unpacking those statements of intent,” she says.

The manager research team at Willis Towers Watson did 30 per cent more manager meetings in 2020 than it usually does in a year which was a silver lining of the lack of travel and a reflection of the ongoing use of technology by managers and consultants in the research process.

Nikulina says not only did her team do around 3000 meetings last year, but the quality of interaction did not drop due to a lack of in-person due diligence.

“The quality of insight didn’t drop, but it morphed into something different,” she says. “Seeing investors in their homes, and how they interact, provides a very different perspective in due diligence meetings.”

While many aspects of manager due diligence were not impacted by remote working, and perhaps even improved, operational due diligence was made more difficult. A practice of touching and looking closely at technology and systems plays a core part of assessing operational due diligence and there was a short period of time where this was not possible at all. But with offices and people on the ground all over the world the consultant was able to deploy local people to do operational assessments, when otherwise that might not have fit their job specifications.

“In the case of new growth opportunities, like the increase in demand for China-focused assets, we had to rely on colleagues on site to do due diligence.”

Willis Towers Watson has a team of 110 people doing research, 90 of which are doing pure manager research, a further 10 are doing macro-economic research and there are also 10  people employed by the Thinking Ahead Group.

The consultant has researchers in seven locations around the world, and in some instances it had to rely on client consultants to do the physical check of assets and be the eyes on the ground.

“Last year emphasised the need for agility for everyone and for us as well. To always be prepared for change is a very important takeaway,” he said.

“Diversity and inclusion is a litmus test of a manager’s culture.”

Willis Towers Watson recently published a report reflecting on 20 years of manager research and one change that Nikulina believes is evident is that the industry, more than two decades ago, is built on purpose.

“Last year the purpose of the industry came more vividly to the forefront for many more stakeholders. From a research perspective we think about how do you distil this purpose,” she says.

Even a decade ago the job of a manager researcher was knowing the universe of 100,000+ managers, and ranking them.

“This has changed quite significantly and 2020 emphasised this. You will achieve better outcomes if you built long term relationships and through the period of change you evolve together,” she says. “Then it is easier to get to this purpose.”

Purpose, or why people come to work, is different for different managers.

“It’s interesting to see how different managers relate to the purpose of the industry. 10 years ago it was fine to have a financial purpose as the guiding light. For many firms that is becoming much broader.”

The move to more engagement with managers, rather than pure ranking, is a lesson for asset owners in their selection and relationship with external managers.

“Asset owners can save a bit of governance in not trying to rank the entire universe, and develop more fruitful relationships and increase their chances of success if they select the partners they can work with in developing mandates and ensuring their firms evolve in line with their needs,” she says.

In its manager research process Willis Towers Watson emphasises qualitative or soft factors considerably, including culture.

“Everything quant becomes technologic, it’s about how we process data effectively and get more data, but as researchers we spend less time on it, it’s an input,” she says. “Now people are spending time on how to evaluate the qualitative factors, how to judge culture, get through marketing screens, and what their beliefs are and how they lead their firms.”

In 2020 culture was put to the test, says Nikulina, as people moved to working online. “Managers with a strong culture thrived and we could see that from different angles in doing our remote assessments. But those with fragile cultures found it more difficult.”

She says diversity and inclusion is almost a litmus test of the manager’s culture, emphasising the evolution of DEI rather than the evaluation at a point in time.

“It doesn’t lead you to good decision making when your team is homogenous,” she says. As the industry and various teams embrace DEI and move to be more inclusive culture plays an important role.

“There will be fractures along the way as teams become more diverse, a lot may go through a rollercoaster so culture will be important,” she says.

“DEI has to come to the forefront and 2020 re-emphasised this fact that where a manager is dependent on one personality there are so many more risks. If you have a sustainable business around a team, and a diverse and inclusive team, it is so much more sustainable and more likely to succeed. This has jumped up in our priorities quite a bit.”

Nikulina urges managers to keep clients’ needs at the core of their evolution.

“There are so many players and it’s a competitive industry so you would have expected a lot of innovation. But my assessment is we are not doing as great a job as society should expect form our industry,” she says. “We have very standard products, rather than something that is suited to what asset owners actually need and linking it to the long-term needs of society. We are not innovative enough, we need to think more holistically and innovate more.”

For more commentary on this topic you might like the coverage of the session that Luba Nikulina spoke on at the Fiduciary Investors Symposium in May about the increased use of technology in manager due diligence. Click here for more.

China is a simultaneous threat and an opportunity for investors. This discussion looks at how to navigate a worsening geopolitical situation and what it means for economic growth. Is the current course a steady state, or are big shocks, for the better or for the worse, possible and even likely? Geopolitical expert, Professor Stephen Kotkin, examines what lies ahead for investors.

About Stephen Kotkin
Stephen Kotkin is the John P Birkelund Professor in History and International Affairs at Princeton University. He is the co-director of the program in history and the practice of diplomacy and the director of the Princeton Institute for International and Regional Studies. He established the Princeton department’s Global History initiative and workshop, and teaches the graduate seminar on global history since the 1950s. Professor Kotkin received his PhD from the University of California, Berkeley in 1988, and has been a professor at Princeton since 1989. He is also a senior fellow at the Hoover Institution at Stanford University. At Princeton Professor Kotkin teaches courses in geopolitics, modern authoritarianism, global history, and Soviet Eurasia, and has won all of the university’s teaching awards. He has served as the vice dean of Princeton’s Woodrow Wilson School of Public and International Affairs, and chaired the editorial committee of Princeton University Press. Outside Princeton, he writes essays and reviews for Foreign Affairs, the Wall Street Journal, and the Times Literary Supplement, among other publications, and was the regular book reviewer for the New York Times Sunday Business section for many years.  He serves as an invited consultant to defence ministries and intelligence agencies in multiple countries.  His latest book is Stalin: Waiting for Hitler, 1929-1941 (Penguin, 2017).  His previous book was a finalist for the Pulitzer Prize.
About Amanda White
Amanda White is responsible for the content across all Conexus Financial’s institutional media and events. In addition to being the editor of Top1000funds.com, she is responsible for directing the global bi-annual Fiduciary Investors Symposium which challenges global investors on investment best practice and aims to place the responsibilities of investors in wider societal, and political contexts.  She holds a Bachelor of Economics and a Masters of Art in Journalism and has been an investment journalist for more than 25 years. She is currently a fellow in the Finance Leaders Fellowship at the Aspen Institute. The two-year program seeks to develop the next generation of responsible, community-spirited leaders in the global finance industry.
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.

About Joseph Stiglitz

Joseph E. Stiglitz is an American economist and a professor at Columbia University. He is also the co-chair of the High-Level Expert Group on the Measurement of Economic Performance and Social Progress at the OECD, and the chief economist of the Roosevelt Institute. A recipient of the Nobel Memorial Prize in Economic Sciences (2001) and the John Bates Clark Medal (1979), he is a former senior vice president and chief economist of the World Bank and a former member and chairman of the (US president’s) Council of Economic Advisers. In 2000, Stiglitz founded the Initiative for Policy Dialogue, a think tank on international development based at Columbia University. He has been a member of the Columbia faculty since 2001 and received that university’s highest academic rank (university professor) in 2003. In 2011 Stiglitz was named by Time magazine as one of the 100 most influential people in the world. Known for his pioneering work on asymmetric information, Stiglitz’s work focuses on income distribution, risk, corporate governance, public policy, macroeconomics and globalization. He is the author of numerous books, and several bestsellers. His most recent titles are People, Power, and Profits, Rewriting the Rules of the European Economy, Globalization and Its Discontents Revisited, The Euro and Rewriting the Rules of the American Economy.

About Amanda White
Amanda White is responsible for the content across all Conexus Financial’s institutional media and events. In addition to being the editor of Top1000funds.com, she is responsible for directing the global bi-annual Fiduciary Investors Symposium which challenges global investors on investment best practice and aims to place the responsibilities of investors in wider societal, and political contexts.  She holds a Bachelor of Economics and a Masters of Art in Journalism and has been an investment journalist for more than 25 years. She is currently a fellow in the Finance Leaders Fellowship at the Aspen Institute. The two-year program seeks to develop the next generation of responsible, community-spirited leaders in the global finance industry.

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.

When behavioral economists get a secret handshake, it will be a shrug, a self-deprecating nod to how financial institutions initially greet their ideas.

Ricardo Research’s brilliant analysis of how short-term behavior predictably ensues from the usual mandate contracts between asset owners and asset managers – together with the commentary in Top1000funds.com – is what brings this to mind.

“The first step towards a more effective monitoring approach is to recognise that short-term performance data are at best a weak indicator of success for strategies with long-term objectives”, write Paul Woolley, Phillip Edwards, and Dmitri Vayanos. “Investment cycles can be long-lasting, so even over periods of 5-10 years investors should be wary of drawing overly strong conclusions from performance data alone.”

FCLTGlobal’s experience bears this out exactly.

Last year we released the second edition of our toolkit for investors to build long-term mandate contracts. A key part of this update was adding case studies of how asset owners and asset managers have used these provisions in the real world. The most widely used provision, by far, is a seemingly-minor behavioral nudge: reordering performance tables so that longer-term data comes before short-term returns.

The list of institutional investors that have made this change and talked publicly about it is long, including Ontario Teachers’ Pension Plan, CalSTRS, MFS, Federated Hermes, Kempen, and Brazil-based NEO Investimentos. The evidence of this nudge’s effectiveness is the enthusiasm investors have for talking about it with others.

It must be noted that this is not a change of the performance data that gets presented. All of the return figures remain. These long-term investors merely have reordered the data. The impact comes from knowing that people give the most attention to the information that they see first, often to the point of not giving any attention to the last information in a sequence, so these investors are being intentional in how they use this focus.

It’s really no more complicated than saying what you mean to say (and not saying what you don’t).

This longer-term mandate practice is most widely-adopted, but it is far from singular. Woolley, Edwards, and Vayanos also emphasize the importance of fee arrangements, and very appropriately so. It is stunningly common how often asset owners get what they pay for – but pay for something other than what they want.

Fee arrangements can nudge longer-term focus in a number of ways. Just for example, OTPP also has used a longevity discount with asset managers, accepting higher up-front costs in exchange for steeper reductions over time, and agreed that it would pay a penalty in the event if no-cause termination. Both provisions give OTPP’s asset managers confidence that it really is committed for the long term, and that they must be too.

Risk parameters also need to be on the list because they frame the investable universe for asset owners and managers. Woolley, Edwards, and Vayanos emphasize how multiple times horizons matter. Investors with sincere and strongly-held beliefs about the long term often are surprised by short-term disruptions in the interim period and panic – even though such disruptions are generally foreseeable. Long-term investors agree in their mandate contracts to project risk across multiple time horizons so that they have sound estimates not just about where they are going but also what it will be like to get there.

“Short-termism” is a euphemism for a suite of behaviors in which one individual’s or institution’s time horizon does not match another.

Woolley, Edwards, and Vayanos are entirely correct that the origin of these behavioral mismatches often is the mandate agreement that asset owners and asset managers use to set the incentives and parameters for their relationships. The investors referenced above are leading in this regard.

Practical – indeed, practiced – alternatives are available for other long-term investors that are ready to follow suit.

 

Matthew Leatherman is a research director at FCLTGlobal, a non-profit organization whose mission is to rebalance capital markets to support a long-term, sustainable economy.