Impact Investing: Making money from making the world a better place

Client expectations of the environmental, social and governance (ESG) impacts of Australian companies in their investment portfolios are changing fast, according to Dr Ian Woods, Head of ESG Investment Research at AMP Capital.

“In order to succeed, investors need to show that incorporating ESG issues into their investment process leads to their portfolios having ESG characteristics that are superior to those of the index over the long term,” Woods told a recent AMP Capital Insights Forum.

Client priorities are by no means uniform. Woods points out that: “clients are increasingly asking for comparisons between their funds and the ASX200 as a whole; this might be from the perspective of its carbon footprint or corporate governance profile.”

Investment managers such as AMP Capital that are signatories to the United Nations Principles for Responsible Investment are committed to:

• Incorporating ESG issues into investment analysis and decision-making processes
• Being active owners and incorporating ESG issues into ownership practices and policies

This requires investment managers to be seen to be active owners, which requires voting at company annual general meetings on board and shareholder resolutions.

“Managers must go beyond this and be able to show an ongoing process of engagement with boards and executive management teams in order to contribute to positive ESG outcomes,” says Woods.

One example of this was the Australian power generator AGL. Following engagement with AMP Capital and other investment managers as well as the proposing of a shareholder resolution, it pledged to close all its existing coal-fired power stations by 2050. It is now the largest ASX-listed investor in renewable energies.

“Investment managers that are able to show that they are at the forefront of thinking about how the industry can deliver superior ESG outcomes whilst generating market returns (or above) are more likely to build a compelling market proposition” argues Woods. “A good way to demonstrate this is by creating and sharing thought-leadership content on an ongoing basis,” he adds.

However, ESG-focussed clients are no longer satisfied that their investments simply do no harm to society or the environment. Instead, Woods explains: “clients are demanding that the delivery of market returns also be accompanied by specific social or environmental outcomes”.

This fast-growing part of global asset management is known as Impact Investing:

This is illustrated by the growth of ‘Green Bonds’ over recent years. These are debt instruments that offer similar returns to regular bonds, but are used to finance assets or projects that are crucial to addressing environmental challenges such as climate change. This typically involves the same types of issuers that are active across the wider fixed income market.

“The bond proceeds provide the issuer with a quarantined pool of funding that supports its delivery of a specific outcome, such as developing wind farms or constructing houses with five-star energy ratings” explains Woods. “Alternatively, the bond might support the provision of education services, especially in circumstances where there is a supply shortage.”

Another high profile example of this trend is the C$287 billion Caisse de dépôt et placement du Québec pension fund; it has announced plans to invest C$8bn into low-carbon technologies.

“The concept is in its early days and is still a small part of the market, but we are already seeing it crop up in client mandates” observes Woods. “We expect it to be a strong growth area over the next few years.”

“The bond proceeds provide the issuer with a quarantined pool of funding that supports its delivery of a specific outcome, such as developing wind farms or constructing houses with five-star energy ratings” explains Woods. “Alternatively, the bond might support the provision of education services, especially in circumstances where there is a supply shortage.”

Another high profile example of this trend is the C$287 billion Caisse de dépôt et placement du Québec pension fund; it has announced plans to invest C$8bn into low-carbon technologies.

“The concept is in its early days and is still a small part of the market, but we are already seeing it crop up in client mandates” observes Woods. “We expect it to be a strong growth area over the next few years.”