COVID-19 leads to heightened scrutiny

Canada’s institutional investors representing C$2.3 trillion are increasingly seeing the value in managing “S” issues and are asking deeper questions about the impacts of investments.

In recent years, initiatives around responsible investment and the integration of environmental, social and governance issues (ESG) in investor decisions have fast been gaining pace and popularity. When the COVID-19 pandemic hit, investors acknowledged the challenges for companies and crucially, for the people operating them. To get a pulse of the investor sentiment towards ESG investing and sustainable finance in the midst of a global crisis, Millani Inc., a Montreal-based ESG consulting firm, spoke to 23 Canadian institutional investors, representing C$2.3 trillion in assets under management, and published a study “Is COVID-19 Affecting ESG Integration?  A Canadian Investor Perspective”.

Sustainable funds outperform 

More than just “doing the right thing”, investments in sustainable funds are now proving to be resilient in volatile markets. Institutional investors will need to think about the implications of this on their fiduciary duty in ensuring the best returns for their clients. This may mean shoring up resources for assessing ESG issues in potential investments and performing deeper due diligence to understand asset manager capabilities (both internal and external) in this space.

Many investors felt that their asset owner clients were increasing their due diligence efforts with their external managers and that questions related to ESG issues were getting more sophisticated, the study found.

The value of the “S”

The study highlighted a shift to more value being put on the “S” in ESG. 57 per cent of the investors interviewed were adjusting their stewardship practices, to include social issues like workforce safety, health benefits and supply chain sustainability.

The COVID-19 pandemic has clearly broadened institutional investors’ attention towards valuing ‘social’ issues. The interconnectedness between business performance and doing the right thing for employees, customers and suppliers has now become undisputable for investor. 

Active ownership activities

Institutional investors are accessing information that they haven’t had before about human capital, and they want to understand how companies are managing their workforce, protecting their stakeholders, and putting their continuity plans into action. Investors are steadfast in their expectation of transparency from corporate issuers, with a large majority (65 per cent) expecting enhanced ESG disclosure from companies. “Corporates will need to up their game. Assume that in one year from now, it will be much harder to have no disclosure in the market. It will be unacceptable”, an investor noted.

What’s more, 74 per cent of investors expect that the pandemic will have a positive effect on responsible investing. Investors are increasingly taking into account the environmental and social impacts of our actions as the pandemic continues to highlight and exacerbate existing systemic risks.

A closer eye on impact

In our research, asset managers reported increasingly difficult questions from clients regarding the impact and central purpose of investments.

There appears to be increased focus on the purpose of investing. More and more investors (and issuers) will be asked to demonstrate how they are connecting their activities to the UN Sustainable Development Goals. The combination of current work, together with the market’s renewed understanding of the value of “S” issues will, I believe, leapfrog impact investing to the mainstream, quicker than many expect.

More frequent questions around the impacts of investments may lead mainstream financial stakeholders to reflect on how investments can positively influence society, along with delivering returns.

“Why do we invest? – is it only to generate financial returns? I don’t think so. It will be more around what the needs we’re trying to satisfy are, the way we allocate capital. Impact may be on top of minds for investors by end of year,” one of the respondents reflected.

Subsequently, asset managers that have not been integrating ESG into their investment decisions may have to catch up with their peers who have been doing so for years and can already demonstrate the impacts and returns, of their responsible investment processes.

As the crisis continues and the need to rebuild economies heightens, it’s clear that there will be disruptions in our lives, including our financial systems, and for those that manage them. Institutional investors will need to think about their participation in the rebuild, bearing in mind the potential impacts ESG investing may have on society, but also in ensuring they are meeting their duties towards their clients.