It means moving away from standard use of environmental, social and governance (ESG) factors or portfolio construction in SI 1.0 and actively seeking companies with sustainable business models, such as electric car makers or renewable energy pioneers in SI 2.0, says Billing, CEO of Swedish pension provider Alecta.
So choosy is the USD 90 billion fund in picking very sustainable companies that Alecta only invests in about 100 entities – a much smaller universe than the usual scope of pension funds of its size. The fund has a large emphasis on its domestic market of Sweden, which consistently tops the RobecoSAM Country Sustainability Ranking.
“What we’re seeing right now is that many of these 100 or so companies that we own have come quite far and become quite good at integrating sustainability into their business models,” Billing said at as part of an inaugural lecture given to the Erasmus Platform for Sustainable Value Creation, hosted by Robeco in Rotterdam.
“As an investor, we need to understand what they're doing and how they're doing it in order to assess whether this is a business model we believe would be good for our beneficiaries. It’s very interesting because then you are right into the core of integrating ESG and sustainability into the investment process.”
“Where it moves on is, for example, understanding the opportunities for electrification in the car industry? We own shares in some of the European carmakers, which have relative low valuation multiples today, and part of the reason for that is the transition of the industry into more electrified environment. A key question for any portfolio manager is: ‘Who's going to be the winners of tomorrow?’ We need to be able to answer that, and then take a bet on it.”
“And we are very clear that we will never accept a lower return just because of sustainability. We don't feel uncomfortable saying that because we strongly believe that sustainability means we can capture all the risks and opportunities that are relevant for our return outcome. Then we can talk about sustainable investment or integrating ESG without abstaining from return.”
“It comes back to the cash flow point of a company, as we want to invest into the most sustainable companies. What I think is important is that we have the courage to invest in companies that are on a transition journey; we can support a relevant transition.”
“And that's where I think the engagement part comes into play as well. If we see a reasonable aggressive timeline action plan to transform a business model into something more sustainable, then we should be open minded to take that investment, if we see a good risk-adjusted return possibility over time. We can stand up and say, ‘look, here we are now, it is maybe not that sustainable, but we're on a trajectory. So it becomes investable.”
Billing says the search for future-proof companies is one of three trends, alongside far greater demand from stakeholders including beneficiaries, and from increasing regulation. Alecta runs both a defined benefit and a defined contribution occupational pension scheme, and is broadly 50% invested in bonds, 40% in equities and 10% in real estate. The company is mutually owned by 2.5 million private individuals and 35,000 corporate clients.
A recent survey showed that 58% of private customers and 76% of corporations demanded that Alecta invest their savings sustainably. “My customers have sent a clear message that ‘it's not your money, Alecta, it's our money, and we want you to invest it responsibly, considering ESG factors’,” Billing says.
“What surprised me was that it’s a higher share among corporations compared to the private side delivering this message. So that's one key driver right now. As part of our fiduciary duty, as a mutual company, we obviously need to respect that: sustainability has to be made mainstreaming in our investment process.”
“The other trend which is so evident today and is affecting all pension funds across Europe, is obviously the regulatory drive that the European Commission and the European institutions are showing. We now have the taxonomy and disclosure demands, and now the Shareholder Rights Directive II, which has come into force.”
“The problem with these three clear trends is that I think we come from different faiths in sustainability, but I think that we've passed that point in time of dealing with the myth that investing sustainably costs performance. Now it’s a question of whether you are abstaining from return by not being sustainable.”
On this performance issue, Billing said he could prove his total commitment to sustainable investing works, since the core Alecta Optimal Pension fund has a 10-year average return of 10.7%, above that of competitors. It charges 9 basis points of fund value a year to keep costs down for beneficiaries.
The entire Alecta portfolio aims to meet the goals of the Paris Agreement on limiting global warming to 2 degrees or less than pre-industrial levels. This means that each individual holding needs to be in conformity with the accord. However, due to the quality of available data, it can be a challenge to properly measure compliance in some instances.
“The demand for oil will not peak for many years: the question is whether we can force it to peak sufficiently early in order for us to meet the policy goals that we need to meet,” Billing says. “This comes back to the transition part. I think this Spring has shown some great progress in impacting these oil companies’ behavior with what took place at their AGMs in resolutions to get them in line with global warming targets. So, obviously there's an opportunity also to engage in and get things changed.”
Other investee companies are rigorously analyzed for carbon footprints and any future price put on emissions by governments or regulators. “We've just been through an exercise where, for the first time, we stress tested our entire portfolio using climate change scenarios for all asset classes,” he says.
“We used a lot of data but did the calculations ourselves assuming a price on carbon emissions, discounted that, looked at the individual entities, and the issuers in the emissions. We obviously came up with a market value that is lower than what the market is actually showing for them. So, we can then have a direct and constructive engagement with that company based on our calculations and assumptions, and what kind of attention they are paying to it.”
“I think it's a fascinating time to live in and there there's a lot of hope. I am always the optimist – it's a time for opportunities.”