A new infrastructure sustainability benchmark has been developed by a group of eight institutional investors, alongside GRESB, to enable systematic evaluation and industry benchmarking of the sustainability performance of their infrastructure assets.

 

Despite large and widespread allocations by Canadian and Australian pension funds to infrastructure, institutional investors globally do not have large allocations to the asset class.

According to CEM Benchmarking, 28 per cent of pension funds now invest in infrastructure, and allocations are still low at around 0.8 per cent on average, however this will increase.

An initial group of investors, which includes CalPERS, APG, ATP and Ontario Teachers Pension Plan and PGGM, did a pilot assessment of ESG benchmarking within their infrastructure investments with an assessment they developed together.

Infrastructure managers, and operators gave them feedback and now GRESB has become involved in order to professionalise the benchmark and ensure a standardised global approach.

GRESB has been conducting a sustainability benchmark for the real estate industry since 2009,where it captures more than 50 data points of environmental and social performance integrated into the business practices of each real-estate company or fund.

Nils Kok, chief executive and founder of GRESB says the development of ne consistent global index is important.

GRESB has a team of 20 people that will frame the ESG criteria and collect data.

“We have a very strong connection with the industry and a framework for indicators to take feedback and views. The industry doesn’t always align, and investors may not look at all indicators we believe are material, GRESB as a conduit is very well positioned. Interaction with the industry is very important,” he says. “We have inhouse knowledge and can turn it into assessment and systematically collect and validate information and produce standardised output.”

The real estate benchmark uses regional groups and benchmark committees to help collect data, discuss trends and get industry feedback with specific working groups on specific issues. This means the benchmark and assessment can be continuously updated in a predicable manner.

The infrastructure concept has only just been released but will adopt a similar structure and collection process, with the first data collection period in the first quarter 2016.

The real estate benchmark took about five or six years to develop and the infrastructure benchmark is expected to be a similar time frame. Ultimately a score card will be produced to investors and to managers.

“This is a heads up to the sector to say it’s coming,” he says. “The infrastructure industry is ready for this conversation, they are more aware of their role in society and obligations that brings. The industry is ready for standardised reporting on ESG, the pushback is less than in real estate.”

Kok says the long-term nature of these investments means it is ripe for ESG analysis.

“This is overdue, if you make a commitment for 30 years it is important how you play into that. It is almost amazing this hasn’t happened before. I believe it will rapidly be standard practice and lead to better practice in risks.”

Kok, who is also an Associate Professor in Finance at Maastricht University, says investors are interested in infrastructure and allocations will increase.

“There’s a need for information and better understanding of what is being invested and with whom. The need for information is significant,” he says. “Investors making allocations and are saying we’ve been successful in ESG in other parts of the portfolio, infrastructure is next and obvious. It is long term and there are significant environmental, social and governance impacts they have.”

GRESB has a number of generic indicators in every ESG ranking, no matter whether it is in real estate, financial services, infrastrucuture, or oil and gas.

“There are indicators that can be applied and relevant if it is a North Sea windmill or sea port. Things like how an operator runs a business its environmental policies, bribery and competition, sustainability integration, reporting on ESG metrics, stakeholder communications.”

The institutional investors that are committed to using the data will be involved in the development of the benchmark. GRESB will look at their subsets and choose layers on their allocations.

“Investors are driving the benchmark, important they drive it and that there is collaboration with the industry They don’t’ have operational experience so we need to work with the industry. Investors need to reach out to operators and work with us on this ESG benchmark.”

The data collection will also look at sub sectors, for example within utiliites, classify renewables as a subsector.

“Infrartucture investments span the globe and fit the requirements of institutional industry, they have long time horizons and predictable cashflows. As the allocations to infrastructure increase, for ESG to be part of that from the beginning is fantastic.”

 

According to a statement by OTPP, infrastructure and sustainability are closely related: as the backbone of the global economy, infrastructure investments offer scalable, resilient pathways to sustainable economic growth by delivering key societal benefits, such as vital transportation links, (renewable) energy sources, livability, social infrastructure, water and waste management systems, smart grids and low-carbon transportation systems.

“Given the long-term horizon and the societal impact of infrastructure investment, sustainability and broader environmental, social and governance considerations are critically important for infrastructure investors. Therefore we join forces in setting up a global benchmark that provides insight, allows us to measure the progress and gives us the means to engage with our investee funds and companies,” says Patrick Kanters, Managing Director, Global Real Estate and Infrastructure, APG Asset Management.

It is well documented that local bias exists in US state pension fund holdings, but now an article in the Journal of Financial Economics (forthcoming) finds evidence not only of local bias, but bias towards politically-connected stocks.  Not only that, but the article finds that political bias is detrimental to fund performance.

“Political bias is positively related to the percentage of politically-affiliated trustees on the board and Congressional connections,” the authors say.

“The more politically affiliated trustees on the board, the more the fund shifts toward risky asset allocations. Overall, our results imply that political bias is likely costly to taxpayers and pension beneficiaries.”

It finds that state pension funds overweight local firms that make political contributions to local state politicians or have significant lobbying expenditures by 23 per cent and 17 per cent compared with the market portfolio.

“When estimated independently, our baseline results show that local bias in general has a positive albeit insignificant impact on fund performance, whereas local political bias has a pronounced negative effect on it.

“For instance, a one standard deviation increase in local political bias results in about a 0.25 per cent to 0.28 per cent decline in quarterly equity performance.

“We find that state funds having boards with a larger percentage of politically affiliated trustees invest more in politically connected local firms and those having boards with more financial experts invest less in such firms.”

 

To read the article below

The influence of political bias in state pension funds

 

 

 

 

For many asset owners, persuading their trustees to adopt an ESG strategy can be a challenge.

The ESG strategy of one of the UK’s biggest pension funds, the $65 billion BT Pension Scheme, became more serious with the realisation that the scheme’s sponsors and beneficiaries were more interested in the area, said Daniel Ingram, head of responsible investment at the fund talking at the UN-supported responsible investment conference PRI in Person 2015 in London.

Bringing the fund’s trustees, holders of valued and diverse views, on board with the changing strategy has been an important part of the ESG journey.

When engaging trustees on ESG, Ingram advises funds be mindful of trustees’ part time role; they don’t want to be swamped with information they do not need, he says.

“It’s all about sharing the right information at the right time.”

He counsels against “putting trustees in difficult positions, being mindful on how to share ESG issues and how frequently.”

It’s a similar outlook at California-based CalSTRS, explains teacher and board chair Harry Keiley.

“As a board we cannot manage CalSTRS’ ESG investments. However there are other times trustees’ knowledge-base does come up,” he says.

BT has set up a sub-committee within the trustee board to provide closer scrutiny around ESG.

Through this, trustees have become more involved around issues like ESG manager selection.

“We don’t normally put investment managers in front of trustees, but on the ESG side, our responsible investment committee does invite managers in. Bringing in the trustees gives a bit more clout,” says Ingram.

Keiley believes that framing ESG conversations, particularly climate change, in the context of risk helps bring trustees on board.

“I’m happy using the term climate change in the boardroom. Trustees are less inclined to talk about climate change, however they do talk about climate risk.”

The different enthusiasms and level of comfort in addressing ESG issues at board level creates a healthy tension.

“Some of us want to go faster and deeper, others are less inclined to do so. As a trustee and chairman of the board my role is oversight,” he says, describing CalSTRS’ trustees as creating the policy and outlining the vision and goals that CalSTRS staff then implement.

“Staff do it and we judge whether they are doing what we asked them to do,” he says. “It’s really important for board members not to get involved in the daily operation, but neither were we elected to be passive and let others drive the train.”

“Do we want to redirect energy to put more effort in environmental issues around climate risk and water? There are eleven people on the board and not everyone agrees. It’s a journey and we’re on it.”

Mapping a company’s carbon footprint, or the emissions it produces, is an important and growing part of portfolio analysis at CalPERS says Anne Simpson, senior portfolio manager and director of global governance at the $307 billion fund speaking at PRI in Person 2015, the annual conference for the UN-supported international network of investors working to put the six Principles for Responsible Investment into practice.

Carbon disclosure is no longer “a bewildering counting of molecules” at the fund, but an essential component with Simpson currently working on methodologies and models that it will begin to apply to its public equity allocation with the intention of rolling out across the whole portfolio.

“We would like to think this is going to be a critical part of our investment decision making process,” said Simpson.

However Simpson says a lack of underlying corporate information means CalPERS has to rely on proxy estimates to measure the carbon footprint of many of the companies in which it invests.

“We can’t model out of thin air. We need the information,” she says, arguing that carbon disclosure become a necessary part of corporate reporting for the investment community.

Raising industry awareness of the need for emissions disclosure is a first step.

“The first part of our work is around advocacy. We need a policy framework that will price in this externality. We need to be advocates for market reforms which will price this risk in a better way.”

She also urges asset owners to put pressure on companies to engage.

“We are the owners of these corporations. Our role as long-term owners is to ensure their strategies are in line with ours.”

Simpson believes that progress is being made in this area like proxy access in the US, whereby major shareholders in public corporations can make their own board nominations, however there is still a long way to go.

“It is right for us to nominate people to the board,” she says arguing that company directors and boards need “to be climate competent” and put pressure on their companies to generate “the data we need.”

As a basic first step she asks that companies complete CDP’s questionnaire, the not-for-profit that runs the global carbon disclosure system that shows investors how companies manage their environmental impacts.

“We call on our portfolio companies to complete the CDP questionnaire for their carbon and water use.”

Simpson also urges asset owners to push expectations among their managers, internally and externally.

Managers need to develop and use methodologies that incorporate a companies’ environmental practices.

Asset owners should requests data and modelling in their manager contracts and catalyse the change, she says. She urges for much more expertise in the area from managers.

“It shouldn’t be a mile wide and an inch deep,” she says “We should mobilise the resources and talent of our financial services industry to tackle these risk and opportunities.”

Simpson compares the 70 signatories to the Montreal Pledge, a commitment by investors to publicly disclose the carbon footprint of their investment portfolios on an annual basis with the 1,000-odd signatures to PRI.

“Asset owners and managers need to get behind this. We are breaking new ground but need the power of money behind it.”

 

 

Renosi Mokate, board member at Africa’s largest pension fund South Africa’s Government Employee Pension Fund, GEPF, believes that one reason the R1 trillion ($107 billion) fund so comfortably embraces ESG principles stems from South Africa’s own turbulent history.

“Our investment policy has been influenced by our history,” she says, speaking at PRI in Person 2015, the annual conference for the UN-supported international network of investors working to put the six Principles for Responsible Investment into practice.

“We have a historical legacy of high unemployment and inequality. Coming from an undemocratic society, which was unfriendly to ESG, has created an environment that actually spurs us on.”

Adding that addressing the social dimension within ESG has seen the GEPF invest in SMEs, infrastructure and support Black Economic Empowerment.

In a discussion that compared the ESG ‘journey’ of different asset owners, South Africa’s history markedly contrasted with Japan where advocates of ESG take up are challenged by a conservative society.

Masaru Arai, chairman of the Japan Sustainable Investment Forum, JSIF, a not-for-profit established in early 2001 to promote SRI in Japan, puts Japan’s ESG reticence down to historical investor short-termism, a lack of staff and experience within corporate pension funds, and key cultural barriers.

“The main stakeholders of a company in Japan have always been perceived as the customers, the employees, even society, but rarely the shareholders. They are never emphasised as stakeholders,” he explains.

In contrast in South Africa the GEPF has built a policy framework around ESG to guide internal strategy and its investment managers, namely the Pretoria-based Public Investment Corporation mandated to manage the bulk of the fund.

“We are currently working with the PIC to establish a mechanism for engaging with the largest companies on the JSE on a regular basis to ensure they understand what we are trying to achieve,” says Mokate.

She describes a policy of communication and engagement that “won’t happen overnight” but will ultimately enable the GEPF to hold companies accountable to the standards the GEPF is setting.”

A moot point given that GEPF assets comprise a 50 per cent allocation to listed South African equities, a weighting that accounts for 13 per cent of the capitalisation of the Johannesburg Stock Exchange.

There are signs of change in Japan, encourages JSIF chairman Arai, pointing to political initiatives under the Abe government with the introduction of corporate governance and stewardship codes.

“These are aimed at revitalizing the economy as a whole but have resulted in more listening on ESG issues nonetheless.”

But he believes the real key to ESG take up in Japan lies with a shake-up around the concept of fiduciary duty whereby asset owners come to value non-financial considerations in their portfolios.

“Fiduciary’s have to integrate ESG issues into their normal investment process, along with financial issues. It is all about rethinking fiduciary duty.”

 

Fiduciary duty shouldn’t be a barrier to investing according to ESG principles, said Marcel Barros, executive director of Latin America’s largest pension fund, the Banco do Brasil SA, or PREVI, talking at PRI in Person 2015, the annual conference for the UN-supported international network of investors working to put Principles for Responsible Investment into practice.

“People need a planet to live in; where is the profit if I can’t breathe or produce enough food? We need to respect the law; take care of our workers; convince people ESG is important,” he argued in an impassioned call for greater ESG vigilance among investors.

The argument that fiduciary duty is at odds with the adoption of ESG principles – since trustees primary concern should be on a fund’s financials rather than “non-financial” considerations – has raged for a decade.

The PRI certainly hopes that its latest publication, Fiduciary Duty in the 21st Century, will finally show that fiduciary duty can no longer be used as a barrier to implementing ESG principles.

The global report, drawn from extensive outreach and interviews, finds that ESG issues are in fact integral to financial performance.

“We’ve found that failing to consider longer term drivers like ESG in investment practices is actually a failure of fiduciary duty,” argues Fiona Reynolds, managing director, PRI. Examples of this in the report abound. Like a reference to investors that avoid a high-carbon asset because of financial concerns about stranded assets, are infact likely to be seen as consistent with fiduciary duties.

But despite the latest swathe of research, many fiduciaries are still dragging their feet when it comes to implementing ESG in many jurisdictions. It’s why the report is underscored with calls for change. Like the need for better regulation and more policy initiatives to support ESG.

Brazilian laws certainly need to become “much more effective to support ESG,” argues Barros. Experiences in Latin America however are in sharp contrast to The Netherlands where fiduciary acceptance of ESG has led to laws like a 2013 initiative that now requires pension funds say how they are integrating ESG with their investment decisions.

In Japan, new codes of practice should see more institutional investors monitoring the corporations they invest in for ESG, but progress is still slow in comparison.

“As a regulator we will be carefully watching for implementation of these two codes,” assures Amane Fujimoto, deputy director, in Japan’s Financial Services Agency, a fellow panellist.

The battle is ongoing in the US where perceptions about fiduciary duty and responsible investment, with lawyers and consultants too often characterising ESG issues as non-financial factors remain.

Part of the solution could be changing the language around ESG, suggests Robert Eccles, Professor of Management Practice, Harvard Business School, chairman, Arabesque Asset Management.

“If you talk about ESG integration and responsible investment the connotation is that you are giving up returns. You need to reframe it. You talk about sustainability people’s eyes glaze over. The issue is around language.”

Despite the challenges of coordinating global progress, Reynolds insists the argument as to whether fiduciary duties can incorporate ESG factors is paid less lip service than before. “The report will move the debate on,” she says.